When starting your own small business, there are a few different structures to choose from - one of which is a limited company, the most popular company structure in the UK.
While starting a limited company can be a sensible choice for self-employed workers, particularly, as your turnover grows, the structure does throw up a few things for business owners to get their head around.
Perhaps the biggest element to get to grips with, as well as the most important thing to a lot of people, is working out how to pay yourself and how much that pay should be.
As a small business accountants, we have advised many clients on salaries when it comes to tax, cash flow etc. Below, we run through the most common questions and get to the bottom of paying yourself from your own business.
For limited company owners there are a couple main reasons why they should take a salary from their own business, besides the obvious need to have money in order to survive.
The first is tax-related. In a limited company, your salary can be accounted for as an expense to the business, which in turn lowers the company’s Corporation Tax bill at the year end.
Secondly, taking a salary now can benefit your pension down the line. In the current tax year, the Lower Earnings Limit of £6,032 per year sets a benchmark - being paid anything above this value qualifies you for another year of state pension.
There are arguments which support both a lower salary and a higher one.
Firstly, taxpayers in the current tax year have a personal allowance of £11,850 - this represents the amount of money an individual can earn over the course of a tax year without paying income tax.
Further to that, there’s also a National Insurance Contribution (NIC) threshold, but this is set at a slightly lower level before you start incurring a charge.
If a salary is above the NIC ‘Lower Earnings Limit’ of £6,032, but falls below the NIC ‘Primary Threshold’ of £8,424, there are two outcomes. For one, you don’t pay NIC, and secondly, your State Pension contribution record is continued.
With all of that being said, taking a low salary can have its negative impacts, too.
You could miss out on part of your annual tax-free allowance if your salary is paid at the NIC Threshold - you can learn more from our accountants about the impact of salary, dividends, and other sources of income on your personal tax allowance here.
Regardless of the fact you own the business, your salary is treated the same way as any full-time employee when it comes to PAYE.
In addition to that, income tax is cumulative for all employment earnings during the tax year. For example, if you’ve already earned £7,800 from any employment in a given tax year, your personal tax-free allowance will be reduced by this amount.
Unlike income tax, National Insurance Contributions (NICs) aren’t cumulative. This means each new employment has a separate earnings threshold before NICs are due.
For employees who fall into the higher tax bracket, there is a maximum amount of NIC that can be paid.
If you’re an employee below Director-level, this threshold is set as a monthly amount. However, if pay exceeds this amount in any month, you will subsequently be liable to pay NICs.
With regards to Directors have an annual threshold, which is 52 times the weekly threshold amount. When salary starts to go over this, they pay NICs.
What is the most tax efficient way to take a salary from your own business?
Taking all the above taxes together, it’s usually tax-efficient for most people to take a salary up to the Primary National Insurance threshold (£8,424 in 2018/19).
As the Lower Earnings Limit is lower than the Primary National Insurance threshold, you’ll still accrue qualifying years for the state pension.
If you take a salary up to the Primary National Insurance threshold, you won’t pay any income tax on it if that is your only source of income.
You can, however, pay yourself as much or as little salary as you wish - what you ultimately decide to do is entirely your choice.
If you require further advice, our team are on hand to discuss payroll services and help you decide what is the most tax-efficient way for you to be paid. Get in touch with our team or try our instant quote tool and get a competitive fee in just 5 clicks.