If you’re switching from employed to running your own company, it’s important to understand how to pay yourself.

It takes a little effort to know how to do so tax-efficiently, but don’t be fazed, our specialist team can explain it all to you and show you how to take money out of your business tax-efficiently and compliantly.

Most contractors who operate via their own limited company pay themselves a mixture of salary and dividends as this is usually the most straight-forward and tax-efficient way to work. This usually entails taking the salary part of your income as your tax-free allowance (currently £12,570, 2024/25) and the remainder of your income via dividends.

Dividends are taxed in a similar way to employment income, but the tax rate is lower in each band. This is why it’s usually more efficient to take most of your income via dividends. Dividend payments also attract a tax-free allowance, so the first £500 you receive in dividends is tax-free.

Dividend Tax Rates (2024/25)

How are dividends calculated?

The amount you have available for dividends depends on how much you have left once you’ve paid Corporation Tax. Corporation Tax is calculated against any profit, the amount you have left once you’ve covered your business expenses. Ultimately, you can take dividends once you’ve paid your expenses and met your company tax obligations.

We would be happy to complete a tax planning call with you but below we outline a typical scenario.

A typical scenario:

1. Director takes a monthly salary of £1,047.50 (£12,570 total salary for the year – no tax to pay)
2. Director takes dividends worth £37,700 for the year (as long as the company has sufficient profit).
3. This brings the Director to the top of the Basic Rate limit of £50,270 and means they have 8.75% of tax to pay on the dividend value (£3,255).

Taking higher dividends

You can, of course, take more dividends as long as the company has sufficient profit. If you’re considering doing this, you need to be aware of the tax implications as tax on dividend payments between £37,700 and £125,140 will attract a tax rate of 33.75%.  For example:

• If you took dividends of £40,000, your tax bill would be £4,031
• If you took dividends of £50,000, your tax bill would be £7,406
• Dividends of £75,000 would be subject to £15,843 in tax.

 

As you can see, the tax implications are severe, so it’s always best to take specialist advice about the best approach.

It is interesting to note that if you want to take a higher level of dividend from year to year you can spread the tax bill. For example, if you expect to take £80,000 in dividends this year but want to take £120,000 next year, you can ‘vote’ dividends of £100,000 per year instead, giving you a relatively straight-forward tax saving.

Whilst the Corporation Tax and Dividend Tax rates have changed in recent years, they remain slightly more favourable than taxation as an employee in the main. Our team will provide the tailored advice and guidance you need to take your income tax-efficiently. If you have any questions, please do not hesitate to get in touch.