Lubbock Fine, 19 March 2019
It’s that time again! We are nearing the end of the current tax year 2018/19 and the way business owners decide to take excess profits from their Small Medium Enterprises (SMEs) can have an eclectic result. For owners who have taken their required salary and dividends for the tax year, a question begs – what to do with the remaining profit within the company?
The two main ways to distribute such profits are by taking a bonus (taxed as salary) or taking additional dividends. As an example of this, a higher rate taxpayer who wishes to take out profits will incur the below tax charges:
|Corporation tax 19%||£0.00||(£7,600)|
|Employer NI 13.8%||(£4,850)||£0.00|
|Value to director||£35,150||£32,400|
|Director’s NI 2%||(£703)||£0.00|
|Director’s income tax 40%/32.5%||(£14,060)||(£10,530)|
|Net benefit to director||£20,387||£21,870|
*Assumes that the director has already used £2,000 dividend allowance.
As you can see from above taking profits via dividends is slightly more tax efficient than taking a bonus. However, with taking profits in this manner comes two further potential tax implications:
The third option is a lump-sum employer pension contribution. The benefit to an owner is that they are classed as both the employer and the employee of their company, therefore the profits could be used to make an employer pension contribution. Using the £40,000 example, this enables them to benefit from the full amount without any initial tax or national insurance deductions. When in the pension tax-wrapper, the £40,000 will not be subject to any income tax, dividend tax or capital gains tax. Only at the point they start to take income from the pension (preferably as a basic rate taxpayer) would they then pay income tax on this. If we take the below table into consideration (as we did for the bonus and dividend payment) you can see the difference this makes:
|Employer Pension Contribution|
|Corporation tax 19%||£0.00|
|Employer NI 13.8%||£0.00|
|Value to director||£40,000|
|Director’s NI 2%||£0.00|
|Director’s income tax 40%/32.5%||£0.00|
|Net benefit to director||£40,000|
Other reasons that an employer pension contribution is a preferable solution for excess profits are:
**The above is a simplified summary and there are other taxes to consider such as the Lifetime and Annual Allowance Charge, if you are interested please contact our Wealth Management Team
For more information or to discuss your requirements, please contact us.