The general rule is that a dividend is preferred to salary/bonus because less tax is paid on a dividend. There are several reasons why this is the case but, on the whole, the tax saving is driven by the fact that NICs are not payable in respect of a dividend.
That is not to say that a dividend should be paid in preference to salary/a bonus in all cases – the tax position will depend on the particular circumstances and there are other considerations; for example, company law requirements; payments must be made by reference to shareholdings; the impact of the settlements legislation and the fact that dividends are not earnings.
It is important that the tax liability is calculated for both options and that the client is made aware of all the implications of his/her decision.
The following example illustrates the tax saving that may be achieved where a company pays profits of £50,000 as a dividend rather than additional salary/a bonus. It is assumed that the individual receives a salary for the year of £8,632 per annum.
| Salary | Dividend | |
| Company: | ||
| Profits | £58,632 | £58,632 |
| Less, basic salary | (£8,632) | (£8,632) |
| Less, bonus | (£43,937) | £nil |
| Less, employer’s NICs | (£6,063) | £nil |
| Taxable profits | £nil | £50,000 |
| Corporation tax | £nil | (£9,500) |
| Profits after tax / Dividend paid | £nil | £40,500 |
| Individual: | ||
| Employment income | £52,569 | £8,632 |
| Dividend income | £nil | £40,500 |
| Total income | £52,569 | £49,132 |
| Less, income tax payable | (£8,528) | (£2,597) |
| Less, employee’s NICs | (£5,015) | £nil |
| Net amount received | £39,026 | £46,535 |
| Additional funds under dividend route | £7,509 |
In other words, the individual will be better off by roughly £7,500 if he extracts the company’s profits of £50,000 as a dividend rather than as salary/a bonus; and a saving of this order is generated at a range a profit levels.
Please contact us for further information.
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