Payroll: A Steady Stream with Tax Implications

Choosing payroll means directors put themselves on the payroll, like regular employees. This route can offer benefits, such as:

• Building up qualifying years towards the state pension,
• Retaining maternity benefits,
• Potentially making it easier to apply for mortgages and insurance policies,
• Reduce the company's corporation tax bill since a salary is an allowable business expense.

However, salaries are not free from drawbacks. You may have to pay income tax (PAYE) and National Insurance contributions (NICs) from the director and the company. Additionally, the time and admin burden of managing payroll, including compliance with Real-Time Information (RTI) regulations, can be significant and take time away from doing what you do best, running your business. 
 

Dividends: Flexibility with a Tax-Efficient Edge

Dividends are paid out of the company's after-tax profits and are based on the number of shares held by a director. The dividends route can also offer benefits, such as: 

• Not being subject to NICs, offering a tax-efficient way to extract income,
• Providing flexibility, allowing directors to tailor their income to personal tax circumstances,
• Potentially reducing their overall tax liability, compared with other extraction methods (such as payroll).

The cons of dividends include the requirement for the company to have enough post-tax profits to distribute, and they may not be as beneficial for those looking to build up their state pension or retain certain benefits. Additionally, dividends can restrict the amount of lender available when applying for a loan or mortgage applications, which could be a disadvantage for some directors. You should discuss this with your lender before making an application.
 

Striking the Balance

Most directors find that a combination of salary and dividends, combined with pension contributions, strikes the right balance. This approach allows them to maximize tax efficiency while maintaining the benefits associated with a regular salary. The optimal mix depends on various factors, including the company's profits, personal tax circumstances, and future financial goals.

It's crucial for directors to conduct a yearly review, possibly with the assistance of an accountant or financial advisor, to adapt their strategy according to current tax laws and personal circumstances. This ensures they continue to maximize their remuneration's tax efficiency while meeting their financial needs. We provide the dividend review as part of our service and discuss efficiencies to be made with our clients.

In conclusion 

There is no one-size-fits-all answer when it comes to choosing between payroll and dividends. Company directors must weigh the pros and cons carefully, considering their personal and company's financial situations, to make an informed decision that aligns with their long-term business and personal goals.

We work with all of clients to strike the right balance. For a free tax review meeting of your dividends & payroll balance, contact us!

Published: 5th September 2024