Navigating your way through the early stages of your company lifecycle can be one of the most challenging times for small businesses. There are a number of pitfalls awaiting companies who aren’t prepared for what’s ahead – financial instability can be one of the deadliest snares when it comes to staying afloat.
In light of this, our London accountants have illustrated a range of tactics business owners can use to extract cash from their business, while keeping one eye on their taxes, too.
One of the most common problems faced by small business owners is knowing how and when to extract money from their business.
The first thing to do is to make an estimate of the amount of cash your business is likely to generate in the coming year in your business plan.
A good place to start is by looking at your expected revenue, deducting your anticipated operating expenses and allowing for corporation tax.
If you have any bank debt, you should also make an allowance for any interest you have to pay, and if you are a retailer or manufacturer you may also need to make an allowance for changes in inventory, trade debtors and creditors.
Once you’ve made these estimates, you should then be able to make an forecast the amount of cash likely to be generated by your business.
If you’re not sure about any of these figures, it is best to err on the side of caution, so that you don’t end up distributing more cash than you actually generate.
One of the most effective ways to take money out of your own business is to pay yourself a small salary and the balance as a dividend.
The salary is normally set to your personal tax free allowance, which is currently £11,850 if no other adjustments have been made by HMRC. If you plan to take more than £11,850, then you can use a dividend to make up the balance.
In order to achieve maximum tax efficiency, it’s wise for owners to take a minimum salary.
With regard to tax, you’ll pay 20% on any salary between £11,801 to £46,300, 40 per cent on any salary between £46,301 and £150,000, and an eye-watering 45% on any salary that exceeds this.
By keeping your salary just above the threshold of qualifying for a state pension, while keeping within a minimum tax bracket, you can get the most benefit from your wage.
One of the most obvious and appealing ways to extract profit from your company is to pay yourself a bonus. In terms of benefits, this will largely depend on whether you’re receiving a cash or non-cash bonus.
If your bonus is paid in cash or anything that can be exchanged for cash (like vouchers), this will be counted as earnings and will be subject to both PAYE and employee and employer NICs. For non-cash bonuses, the amount of tax will be dependent on the item in question.
For example, company cars have long been a popular benefit, but with tax on company cars becoming increasingly complicated, many drivers are choosing to take a cash alternative and taking up the increasingly attractive and competitive personal contract purchase (PCP) deals instead.
Dividends can be paid to anyone who owns shares in a company – as long as the company is making sufficient profit to cover these payments.
Starting in the new tax year this April, a shareholder can receive up to £2,000 in any tax year (6th April to 5th April) before paying tax – and after this, any further payments will be taxed based on the tax bands below.
Remember, dividends are added on top of other income – so if a dividend takes someone into the next tax band, it may be the case that the dividend is taxed (partially, perhaps) at a higher dividend tax rate.
The tax advantages of being paid dividends are twofold: firstly, they’re exempt from National Insurance Contributions and secondly, they’re discretionary – which means they can be tailored to individual needs, subject to the company being able to afford to pay them.
When it comes to saving for retirement, you could see some immediate benefit from pension contributions – as this is one way to extract profit from your company while still benefiting from tax relief.
Whether it’s an individual or the company itself who pays into the pension fund, this money isn’t treated as a benefit – meaning it’s very tax efficient.
An annual allowance of £40,000 exists for pension contributions, which is the limit on what can be paid into an individual’s pension each tax year. However, this is reduced for any person with an annual income which exceeds £150,000.
Personal pension contributions are restricted to no more than 100 per cent of an individual’s relevant earnings, meaning they need to be carefully considered when using some of the other strategies in this article.
Any pension contributions made by the company (rather than the individual) reduce the business’s overall profit, meaning the amount of Corporation Tax is also reduced. However, should the employer’s contribution go over the employee’s respective annual allowance, the employee will be liable to pay tax on the excess.
When withdrawing from your pension pot, the first 25 per cent is tax-free – after this, any withdrawals will be taxed at your tax rate at the time, which is generally lower than at the time of paying into the scheme.
Both a short-term way of extracting profit and a long-term way of planning for retirement, paying into a pension is a great way to make the most of your business’s income.
Private investments are a chance to commit your money to another business – helping early-stage companies to reach their next stage of growth.
With opportunities to invest your money in a private company that interests you both personally and professionally, you can invest your profits into a business you care about.
Investing in a private company means you can be involved from the early stages of a company’s life and make a tangible difference to its development. With the potential for EIS or SEIS eligibility, you may also be able to reap the rewards of great tax benefits, such as 30% (EIS) or 50% (SEIS) of the value as a tax credit in the year the investment is made.