Directors Salary – the Basics

Kirsty Young Limited Company

So, you’ve formed your new limited company, and earned some money. Excellent!

Now the most important question you need to answer will be: “How do I pay myself?”.

So, here is our guide to some of the basics you need to know about how to pay yourself as a small limited company owner.

 

The ‘easy’ option

At some point in your life. you have probably worked as a salaried employee working for someone in a job. As an employee, you will have received a payslip. This payslip would have detailed your pay and show the appropriate amount of tax and national insurance deducted.

As a Director, this payment option is open to you, and is effectively the default. In order to pay yourself this way, you will need to run a ‘payroll’, aka a PAYE scheme.

Running a payroll

To run your own payroll, you will need to:

And

  • Submit a report to HMRC on or before each time you pay yourself.

As with all things HMRC, there is a fine each time you miss this ‘Real Time Information’ return. So, make sure you mark the dates in your diary and put time aside on the due day to deal with this.

 

How to do your own payroll/PAYE scheme

There are multiple accounting software providers who offer a payroll system option. There is also a free tool from HMRC, interestingly named ‘Basic Tools’. We aren’t sure ‘basic’ is the description we’d use, but it does work!

Equally, most accountants will offer this service:

  • As part of your regular accounting service

OR

  • As a stand-alone service.

You can also use specialist payroll providers.

Advantages of running your own PAYE scheme

    • You are employed by your company, and have payslips to prove it what you’ve been paid. So your income is straightforward.
    • You have no extra personal tax bill or tax return (generally) to worry about, if this was your only income.
    • You get a reduction in your corporation tax (company tax) bill as you can deduct your salary from your company profits before you are taxed.
    • You will build up a state pension record, presuming you pay yourself over around £6400 a year. This helps towards you getting the maximum state pension.

Disadvantages to running your own PAYE scheme

    • Operating a PAYE scheme is not as straightforward as it appears!
    • In most cases running your entire pay through as ‘PAYE’ salary is not the cheapest way from a tax point. You will pay more tax than the options below, because you will need to pay National Insurance, possibly twice. (Once for you, once as the company).
    • PAYE is not flexible. You need to submit a report on or before each time you pay yourself. This isn’t ideal if you like to draw money as and when during the month.

 

The ‘dividend’ option

You could just pay yourself a share of profits from the company, known as dividends. The dividend option presumes that you

1. Own shares in the company, and

2. Have sufficient profits to do this.

If you have another regular job paid through PAYE alongside your own limited company activity, taking dividends is a common way to pay yourself. This is because you won’t pay National Insurance on these dividends, so they are quite tax efficient.

Advantages of paying yourself in dividends

    • This option is cheaper in many cases due to combined tax and lack of National Insurance.
    • You don’t have to operate a PAYE scheme / run a payroll.

Disadvantages of paying yourself in dividends

    • You could be missing out on paying less tax, as there will be no tax deduction from your company profits.
    • If you did pay yourself only using dividends, and did not have another job, it’s likely you would miss out on a ‘state pension year’. Missed pension years could put at risk the maximum amount you could get in state pension.
    • You need to produce certain paperwork that prove the dividends you paid yourself were legal.
    • You will need to complete a personal tax return and pay tax on dividends you receive over £500 in each tax year (from the 24/25 tax year).

If the company is your only source of income, it’s more common to do the third ‘common’ option below.

 

The ‘common’ option

The more common scenario is you split your pay, by paying yourself some salary, and some dividends.

How you split this is very specific to your situation.

Here’s an example. Where the limited company is your only job, one common level for the 24/25 tax year would be:

  • Pay yourself an annual salary of no more than £9,100.
  • The rest of any money you draw will be in the form of dividends.

This way, you get a balance and the best of both options above.

Advantages of the common / split option

    • You build a state pension record.
    • You will get a company tax deduction for even this small amount of salary (worth over £1700!).
    • You would not pay any National Insurance.
    • You have the flexibility to draw money as and when required (with the correct paperwork in place)

Disadvantages of the common / split option

    • You would still need to operate a PAYE scheme, which is not as simple as it appears.
    • You need to create specific paperwork to prove the dividends were legal.
    • You will need to complete a tax return and pay personal tax on dividends you receive over £500 in each tax year (from the 24/25 tax year).

 

So, which option is right for me?

Ask your accountant to discuss the options with you. If you don’t have an accountant, or are not sure if they are 100% on top of the rules, get in touch. We’d be happy to help.