Now you have a limited company you will no doubt be keen to pay yourself for your efforts. There are a number of different methods for extracting money from your company that you should consider and decide upon based on your requirements and individual circumstances. This guide is intended to cover two of the most popular methods and is specific to paying yourself rather than your employees.
An important thing to remember first!
When you incorporated your limited company you created a new entity that is separate from yourself, the company will have its own assets, liabilities and legal status. As a director you will be responsible for managing the company and as a shareholder you will own part or all of the company entitling you to the business profits and any gains made if the company is sold. It is this distinction that you should remember once the company is trading and receiving payments. The money you collect through your business is not yours to take as and when you please, the money belongs to the company and you must extract any remuneration through an appropriate channel. This can be something that eludes many new company owners, particularly if you are accustomed to operating as a sole-trader.
What is PAYE?
PAYE stands for Pay as you Earn and is a scheme managed by HM Revenue and Customs (HMRC) to collect tax at source from any remuneration made to the company's employees. If you have come from full time employment then the chances are you were paid using your company's PAYE scheme. The PAYE was updated on April 2013 to allow for Real Time Information (RTI), companies operating a PAYE scheme from that date must now make monthly returns to HMRC in regards to their key payroll figures.
How does PAYE work?
The way PAYE works is simple, every month (or week depending on how often you wish to pay yourself) you decide the gross amount before tax that you would like to pay as your salary. You then calculate the amount of Tax and National Insurance that would be due, this will be dependant on your tax code (The Revenue will inform you of this when you setup your PAYE scheme). To calculate your Tax and NI contributions you can either use the old fashioned manual method of using the tables supplied by the Revenue or you can use a computerised system such as Sage Instant Payroll. After completing this you will have a net figure that can be paid to you from the company and a liability for the Tax and NI that must be paid to the Revenue.
The above is a simplified analogy of how an individual might pay themselves using the PAYE system. There are a few other things to remember though.
- If you are a director then the National Insurance calculations are slightly different to that of a regular employee.
- The above example does not take into account any deductions made from the salary such as Pension or student loan contributions.
- A limited company must also pay National Insurance whenever an employee is paid using the PAYE system.
How do I setup a PAYE system?
You can setup a PAYE system with the Revenue by contacting their employer helpline (0845 7143143). They will then send out all the forms and guidance that you will need to start paying yourself through this system.
What are Dividends?
Dividends are basically payments made to company shareholders from the profits of the company. If the company has not made a profit over a given period then it cannot pay a dividend. Most large public limited companies pay a dividend either once or twice a year, effectively it is a reward to shareholders for investing in their company. It is up to the directors of the company to decide if and when a dividend can be paid to the company's shareholders.
Although dividends tend to be associated with large PLC companies, small private companies can also pay a dividend at anytime providing there are available profits in the company.
How are Dividends taxed?
Dividends attract corporation tax payable by the company and may also raise a personal tax liability in the way of income tax. The corporation tax liability is calculated and paid to HM Revenue and Customs at the end of the company's financial year and takes into account the overall profit of the company and any dividends (or so called distributions) that have been made over the period. In this respect it is difficult to estimate the amount of corporation tax payable when the dividend is issued. As previously mentioned though you must ensure that the company has the available profit to make the net dividend payment and the additional tax liability, this must surpass any uncertainty and we would suggest that you estimate the corporation tax liability as over 20% of the net dividend. If a company pays a dividend that cannot be supported by its profits then it is technically insolvent.
Assuming that there is sufficient profit in the company you can continue to issue the dividend to your shareholders. The shareholders must be paid on a pro-rata basis in accordance with how many shares they hold. Once the shareholder has received his or her dividend then there may be an additional personal tax consideration depending on their annual earnings.
Changes to personal taxation on dividends from April 2016:
Prior to April 2016 Dividends used to include a notional tax credit of 10%. The Finance (no 2) Bill 2016, published on 24 March 2016, contains the new rules for dividends. From April 2016 the notional tax credit of 10% will be abolished and replaced by a £5,000 tax free dividend allowance. Dividends above the new limit will be taxed at the following rates:
- 7.5% - Basic Rate
- 32.5% - Higher Rate
- 38.1% - Additional Rate
Dividend income received by pension funds and ISAs will be unaffected. Any basic rate tax payers who are receiving dividend income in excess of £5,001 will need to complete a self assessment tax return from April 2016.
How do I issue a Dividend?
Here are the basic procedures for issuing a dividend.
- Ensure that there are sufficient profits in the company to allow for the dividend. It is recommended that you print a balance sheet and profit and loss account for the period to remove any doubt.
- Call a meeting of the directors to minute the decision and details of the dividend.
- Generate a tax voucher for each shareholder. A tax voucher is a simple statement showing the company and shareholder details along with the individuals shareholding net dividend amount and tax credit.
- Issue the dividend payments along with the tax vouchers and file the board minutes and accounts at the registered office.
It all may sound a little complicated at first but the more times you go through the process the easier it becomes also it may be worth understanding the nature of dividends as there may be distinct financial advantages for both you and your company.
PAYE vs Dividends
The question that many new company owners ask is should I pay myself using the PAYE system or Dividends. The answer is very much dependant on circumstances and in fact many individuals choose to use a combination of the two. Below are some pointers to help you decide on the right format for you and your company.
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