Why take a salary?
There are two main reasons to take a salary from your limited company:
It’s counted as an expense and can therefore lower the amount of Corporation Tax due.
If the salary is above the Lower Earnings Limit (view current tax rates), you accrue qualifying years towards the state pension.
Tax implications of taking a salary
All salaries will be subject to tax via PAYE. With three separate PAYE 'taxes', the Corporation Tax savings can soon be outweighed.
1. Income tax
Income tax is cumulative for all employment earnings during the tax year.
For example, if you’ve already earned £10,000 from any employment in a given tax year, your personal tax-free allowance will be reduced by this amount.
2. Employee National Insurance Contributions
Unlike income tax, employee National Insurance Contributions (NICs) are not cumulative. This means each new employment has a separate earnings threshold before NICs are due. For employees that are higher rate taxpayer there is a maximum amount of NICs that can be paid.
If you’re an employee (but not a director), this threshold is set as a monthly amount. If you’re paid over this amount in any given month, you’ll have to pay NICs even if your pay for the rest of the year is reduced.
Directors have an annual threshold, which is 52 times the weekly threshold amount. When salary starts to go over this they pay NICs.
3. Employer National Insurance Contributions
The threshold for employer NICs works in the same way as employees. For every salary amount your employee earns above the weekly National Insurance earnings threshold, the employer has to pay NICs. This represents another PAYE tax that the company has to pay.
Putting it all together
Taking all the above taxes together, it’s usually tax-efficient for most people to take a salary up to the National Insurance threshold.
As the Lower Earnings Limit is lower than the National Insurance threshold, you’ll still accrue qualifying years for the state pension.
No Income Tax to pay on salary up to the National Insurance threshold
If you take a salary up to the National Insurance threshold you won’t pay any income tax on it. You can, however, pay yourself as much or as little salary as you wish. If you want to pay yourself more, you will need to use our Payroll service as the PAYE taxes on your salary will need to be calculated and filed on a monthly basis via HMRC’s Real Time Information (RTI) filing system.
You can use an external payroll service, but you will be responsible for calculating the correct PAYE and filing the returns with HMRC.
If you wish to take more than the recommended salary amount, please contact your Client Manager.