A client query regarding tax on interaction of business and personal tax:
Still don’t understand this. I want to see it only from a personal not Ltd perspective.
I can earn £9,440 and pay no taxes
If I earn more than £9,440 I will have to pay taxes
I can withdraw £32,010 dividend and not pay tax
But £32,010 is more than £9,440
What am I missing?
Our reply:
You can’t look at the two independently.
The £32k dividend is not tax free; it comes out of company profits after tax and has a tax credit on it which covers the basic rate tax you would pay personally.
Personal
~ £9k is your personal allowance (you personally, not the company)
~ £32k of personal income over the £9k is taxed at basic rate of 20%
~ Personal income over £41k is then taxed at 40% or over £150k 45%
In the company
~ all profit – which is income less expenses – is taxed at 20%.
~ a salary paid to you counts as a company expense, so if a £9k salary is paid then company gets a tax deduction for it and you pay no tax as its in personal allowance (nb 1)
~ dividends are a payment to shareholders out of taxed profits so carry a tax credit for tax already paid.
~ if dividends fall into the first £41k of your personal income (the £9k + £32k) there is no further tax due. If they fall above that then personal tax is due at 40% (or 45%) less a credit for the 20% paid in the company – so broadly a further 20% is payable personally if slay and dividend is over £41k. (NB2)
NB1 – thresholds for NI are lower, so a £9k salary incurs no tax but some National Insurance.
NB2 – dividends are shown as net cash paid in your business accounts / business records, but are grossed up for personal tax.
Eg Net dividend £28,800 (actual cash paid) becomes £32,000 gross for personal tax purposes, treated as 20% basic rate tax paid. If you are observant you will note the gross up between £28,800 and £32,000 is 10% not 20% – that’s correct, but its still treated as a 20% credit against your personal tax – I know that’s complex, but, alas, I don’t make the rules!