Running your own limited company gives you greater flexibility over your personal income. Specifically, how and when you pay yourself. This enables you to take money from the company in the most tax-efficient way, by taking a director’s salary through PAYE and drawing shareholder dividends at regular intervals, or when company profits allow.
Directors’ loans, business-related expenses, and various allowances and tax reliefs are also available. All of these things can contribute toward an overall ‘package’ of tax-efficient remuneration and benefits.
To help you establish the best income structure, we explain the different options available to you, and the various taxes that you will need to pay. Ideally, however, you should consult an experienced accountant for professional advice tailored to your individual needs. Doing so will ensure the best outcome for both you and your company.
How to pay yourself through a UK limited company
If you are a director and shareholder of a UK limited company, there are four different ways that you can take money out of your business for personal use:
- director’s salary
- dividend payments
- director’s loan
- reimbursement of allowable expenses
Most company owners take a salary and dividends whilst also claiming legitimate business-related expenses. Director’s loans are not as common, but they are used in certain situations.
Let’s look at each of these remuneration methods in more detail, starting with the different taxes that apply to each of them.
Paying tax on a director’s salary
If you take a director’s salary, this income will be taxed ‘at source’ through HMRC’s Pay As You Earn (PAYE) system – in the same way as regular employees are taxed on their wages. You will do this by operating PAYE as part of your company payroll.
Income Tax and National Insurance contributions (NIC) are then deducted from your salary through payroll and paid directly to HMRC.
Wages are a tax-deductible business expense, so your company will not pay Corporation Tax on the amount you receive as a director’s salary. Corporation Tax only applies to profits – i.e. the money that is left over after you’ve accounted for all business overheads and other expenses.
However, your company will have to pay employer’s National Insurance if your salary is over a certain amount.
Above the standard tax-free Personal Allowance (£12,570 for the 2023-24 tax year), you will pay the following rates of Income Tax on your director’s salary:
- 20% (Basic rate) – £12,571 to £50,270
- 40% (Higher rate) – £50,271 to £125,140
- 45% (Additional rate) – over £125,140
If your adjusted net income is more than £100,000, your Personal Allowance will decrease by £1 for every £2 earned above that figure. This means that your Personal Allowance will be zero if your annual income is £125,140 or more.
You can view current and previous Income Tax rates and Personal Allowances online.
If you live in Scotland, you will pay Scottish Income Tax instead. The rates and thresholds are slightly different from those outlined above, but the Personal Allowance is the same.
National Insurance contributions (NIC)
In addition to Income Tax, employees (including directors) and their employers must make Class 1 National Insurance contributions when earnings reach a certain level.
On your director’s salary, you will pay 12% employee NIC on earnings above £12,570 per year (NIC Primary Threshold) up to £50,270 per year (Upper Earnings Limit). On income above the Upper Earnings Limit, you will pay a reduced rate of 2%.
Your company will also have to pay 13.8% employer’s National Insurance contributions on your salary income above £9,100 per year (NIC Secondary Threshold).
You can view current and previous NIC rates and thresholds for employees and employers online. The same rates and thresholds apply to all UK taxpayers, including those who live in Scotland.
Paying tax on dividends
Directors who are also shareholders usually take dividend payments on top of their salary income.
Dividends are not liable to Income Tax or National Insurance contributions. However, the amount of tax you pay on your dividend income depends on your Income Tax bracket.
The dividend tax rates for 2023-24 are as follows:
- 8.75% (basic rate) – if annual earnings are between £12,571 and £50,270
- 33.75% (higher rate) – if annual earnings are between £50,271 and £125,140
- 39.35% (additional rate) – if annual earnings are over £125,140
To work out which tax band you fall into, you need to add your total dividend income for the year to your director’s salary and any other income that you receive. Your combined earnings for the year will determine whether the basic, higher, or additional rate of tax applies to you.
There is an annual dividend allowance of £1,000 for 2023-24 tax year. This means that the first £1,000 of dividend income is tax-free. You also won’t pay tax on any dividend income that is within your Personal Allowance.
Dividends are not paid or taxed through PAYE. Instead, you are personally responsible for reporting and paying tax on your own dividend income through Self Assessment.
Moreover, dividends are not a business expense, so you cannot deduct these payments from your company’s Corporation Tax bill. This is because companies pay dividends out of profit after tax – i.e. the net profit that is left after the company has deducted Corporation Tax and other expenses from its income. This is why dividend tax rates are lower than Income Tax rates.
If you are a Scottish taxpayer, the dividend rates and thresholds listed above also apply to you. More information about tax on dividends is available from HMRC online.
Tax on directors’ loans
A director’s loan is any money that you take from your company for personal use that is not one of the following:
- your salary
- a dividend
- an expenses repayment
- reimbursement of money that you have previously paid into or loaned to the company
If you borrow money from your company or lend money to the company, you must record the payments and repayments in a ‘director’s loan account’.
A director’s loan provides an opportunity for tax-free borrowing over the short term. However, tax may be payable if your loan account is overdrawn (i.e. you owe money to the company) after the end of the company’s financial year. This tax is known as ‘section 455’ or ‘S455’ tax.
Section 455 tax is a form of Corporation Tax and it must be reported on a Company Tax Return. If a director’s loan is not repaid in full within 9 months of the company’s year-end, S455 tax is charged at a rate of 33.75% of the outstanding loan balance.
However, companies can reclaim this tax when the director’s loan is fully repaid. Therefore, S455 is essentially a holding tax.
If you take a director’s loan of more than £10,000, HMRC will treat it as a ‘benefit in kind’. If the company does not charge you interest on the loan, or charges less than the official rate, HMRC will charge the official rate of interest to calculate the benefit in kind.
For 2023-24, the official rate of interest is 2.25%. Therefore, if a loan of £10,000 was outstanding for 12 months, the benefit in kind would amount to £225.
Tax on expenses and benefits
Expenses and benefits can be particularly complex because they are all reported and taxed differently.
Some expenses that companies pay to directors are tax-free, such as mileage, business travel, business entertainment, and work tools. Provided that the company reimburses the director’s actual costs or an HMRC-approved flat rate, there is no tax liability on those expenses.
However, companies must report and pay Income Tax and NIC on other types of expenses and benefits, either through payroll or by filing form P11D at the end of the tax year. Examples include company cars, health insurance, and homeworking costs (including computers, furniture, phone, broadband, supplies, and utilities).
Some directors report and claim tax relief on their business-related expenses through Self Assessment instead, rather than claiming reimbursement from the company.
Detailed guidance on expenses and employee benefits is available from HMRC.
What is the most tax-efficient way to pay myself?
If you are a director and shareholder of a company, the most tax-efficient way to pay yourself is to take a combination of a salary (through PAYE) and dividends.
You can achieve further efficiencies by claiming expenses, taking advantage of various allowances and tax reliefs, and making use of a director’s loan where necessary.
The most tax-efficient method of payment for company owners depends on their specific circumstances, as well as the tax rates and thresholds for the year, but the basic approach can be found below.
Step 1 – Director’s salary
Companies with multiple directors and/or at least one other employee
If your company has at least two directors, or at least one employee who is not a director, the best option is to take an annual salary of £12,570 (the limit of your tax-free Personal Allowance) and claim Employment Allowance to reduce the company’s NIC liability (more on this later).
You won’t pay any Income Tax on this amount, and the company can deduct the salary payments as a business expense. This will lower the company’s taxable profits and Corporation Tax bill.
You won’t pay any Class 1 employee NIC because your salary does not exceed the NIC Primary Threshold. The company will have to pay Class 1 employer’s NIC on your salary income above £9,100. However, the Employment Allowance will cover this.
Companies with a sole director and no other employees
If you are the sole director of your company and you do not employ anyone else, you cannot claim Employment Allowance. Therefore, the most tax-efficient approach is to take an annual salary up to the Secondary Threshold of £9,100 per year. By doing so, you will avoid employee and employer’s NIC altogether.
Alternatively, you can pay yourself an annual salary up to the NIC Primary Threshold of £12,570, as in the previous example. However, this is marginally less tax-efficient, because the company won’t be eligible for Employment Allowance to cover the cost of employer’s NIC.
Pay yourself a high enough salary to qualify for the State Pension
To get the full State Pension on retirement, you need to have a total of 35 qualifying years of National Insurance contributions or credits.
You will get a qualifying year if your director’s salary is at least £6,396 per year. This is the NIC Lower Earnings Limit (LEL), which is the minimum amount you need to earn in a year through PAYE to qualify for state benefits, including the State Pension.
You can choose to make voluntary contributions, but it is a lot easier and more cost-efficient to keep your NIC up to date by making regular payments through PAYE.
Step 2 – Dividend payments
Most company owners take the majority of their earnings as dividend payments because:
- the first £1,000 of dividend income is tax-free
- dividend tax rates are lower than Income Tax rates
- you don’t pay NIC on dividends
Beyond the tax-free dividend allowance of £1,000, you can pay yourself any amount of dividends, provided that the company has available profit to distribute after it has paid Corporation Tax.
However, rather than removing all available profit from the company, you may wish to consider leaving some of the profit in the business as distributable reserves. These can be withdrawn as dividends in a future tax year, potentially at a lower dividend tax rate depending on the circumstances specific to that tax year.
Whilst companies cannot claim dividends as a business expense (unlike salaries), the total Corporation Tax and dividend tax liability on this money is usually less than the combined rates of Income Tax and NIC that apply to salary income.
Let’s take a look at a couple of examples of the tax payable on an annual personal income of £50,270. We’re using this amount because it is the earnings limit for the basic rate tax band.
Example 1: Take an annual salary of £12,570 and dividend income of £37,700
You will pay:
- no Income Tax on your salary, because it does not exceed the tax-free Personal Allowance
- no Class 1 employee NIC on your salary, because it does not exceed the Primary Threshold
- no dividend tax on the first £1,000 of dividends
- basic rate dividend tax of 8.75% on £36,700, which is £3,211.25
Your total take-home earnings for the year will be £47,058.75 (£12,570 salary plus net dividends of £34,488.75).
The company will pay Class 1 employer’s NIC of £478.86 on your salary. And remember, since dividends are distributed from post-tax business profits, the company will have already paid £8,843.21 of Corporation Tax (19% of the pre-Corporation Tax value of this income) before paying your dividends.
Total tax liability on your income will be £12,533.32 (dividend tax, employer’s NIC, and Corporation Tax).
Example 2: Take an annual salary of £49,270 and dividends income of £1,000
You will pay:
- no Income Tax on the first £12,570 of your salary
- basic rate Income Tax (20%) on the remainder of your salary, which is £7,340.00
- Class 1 employee NIC on your salary, which is £4,404.00
- no dividend tax on the £1,000 dividend income
Your total take-home earnings for the year will be £38,526.00 (net salary of £37,526 plus £1,000 dividends).
The company will pay Class 1 employer’s NIC of £5,543.46 on your salary. Since dividends are distributed from post-tax business profits, the company will have already paid £234.57 Corporation Tax (19% of the pre-Corporation Tax value of this income) before paying your dividends.
Total tax liability on your income will be £17,522.03 (Income Tax, employee NIC, employer’s NIC, and Corporation Tax).
As you can see, it is far more tax-efficient for both you and your company to keep your salary small and take the bulk of your personal income as dividends. And remember, you may be able to offset employer’s NIC if the company is eligible to claim Employment Allowance.
Step 3 – Expenses and benefits, directors’ loans, pensions, etc
Expenses, benefits, and tax reliefs
Some company owners make substantial use of expenses and benefits on top of their salary and dividend income.
The allowable expenses and benefits that you can claim through your company include:
- pension contributions and retirement benefits schemes
- computers and office equipment
- training costs
- professional membership fees and subscriptions
- company cars
- fuel expenses (mileage allowances) and parking charges
- professional services, e.g. accountancy fees
- medical insurance
- travel expenses, meals, and entertainment costs
- working from home expenses
- some forms of insurance
Directors often claim many of these business-related expenses (those which are “wholly and exclusively” for business purposes) directly from their companies, if they pay for them using personal funds. As we explained earlier in the post, companies may have to pay tax and NIC on many of the expenses and benefits they provide to directors.
You can also claim tax relief on business-related expenses through Self Assessment instead, by deducting them from the total taxable income that you report on your annual Self Assessment tax return.
As a director and shareholder, you’ll need to file one of these tax returns each year with HMRC if you receive dividends, or any other type of income that is not reported and taxed through PAYE.
You may be able to claim tax reliefs on your personal income if you:
- pay into a private pension
- spend your own money on certain things that you need to buy for your job, but do not claim as expenses from the company (as previously mentioned)
- donate to charity
- make maintenance payments to an ex-spouse or ex-civil partner
Some tax reliefs can be applied automatically through PAYE, but you will need to apply for others when you file your Self Assessment tax return with HMRC.
There are different taxation and reporting rules depending on the type of expense or benefit you are claiming. GOV.UK provides an A to Z of business expenses and benefits, along with the relevant tax rules and rates that apply.
A company director can make use of business funds for a limited time through a director’s loan. However, as we discussed earlier, if loans are not repaid within a certain amount of time, tax will apply.
Furthermore, you cannot keep making the same loan to yourself over and over again, i.e. paying it back before the tax-free deadline and then immediately taking another loan. HMRC is wise to this strategy. It is known as ‘bed and breakfasting’ and it will attract tax.
One of the most tax-efficient ways to extract profits from a company is to put funds into a pension. Making pension contributions avoids Corporation Tax, Income Tax, and NIC – as long as it falls within the annual allowance for tax-free pension contributions. This is currently £60,000 in the 2023-24 tax year.
Moreover, if you take money out of your pension pot (when this is permitted – normally not before the age of 55), 25% of any amount that you take will be tax-free.
The Employment Allowance is a scheme that allows certain limited companies to reduce their annual employer’s NIC by up to £5,000 each tax year. You can claim this allowance if:
- your company’s National Insurance liability was less than £100,000 in the previous tax year
- the company has at least one employee (who is not a director) who is paid above the NIC Secondary Threshold
In other words, you cannot claim Employment Allowance if you are the sole director and do not employ anyone else to work in your company.
What this means in terms of tax efficiency is that sole directors with no other employees may want to consider taking a salary of no more than the Primary or Secondary Thresholds (i.e. before NIC liability kicks in).
Whereas, in a company with multiple directors or other employees, directors can take salaries up to £12,570 (the limit of their annual Personal Allowance). They can then claim the Employment Allowance to offset the National Insurance contributions payable by the directors and the company.
So there you have it…
We have discussed the most tax-efficient way to take money from a limited company. Typically, the best option is to take a low salary, top up your income with dividends, and make use of all available expenses, allowances, and tax reliefs.
It should be stressed that this post shows the optimal strategy from a tax point of view, but this needs to be tempered with practicality. That is, how much you need to take out of your company to cover your cost of living, how much you feel your hard work is worth, and whether you need to retain money in the company to sustain or grow the business.
Regardless of what you decide to pay yourself, we would always recommend taking professional, tailored advice from an accountant or specialist tax advisor. Expenses, benefits, and tax reliefs are notoriously complex, so it’s worthwhile having an expert on hand to guarantee the most tax-efficient outcome.