Jennifer Adams outlines some methods of remunerating directors in an owner-managed business.
HMRC defines remuneration as ‘the compensation an individual receives in exchange for the work or services they provide, sometimes called reward’.
By comparison, dividends are a return on capital employed. 'Remuneration' for a director is usually in the form of a salary or bonus, but there are other methods by which a director may receive their 'reward'.
Although directors are treated in the same way as employees for tax and National Insurance contributions (NICs) purposes, control over their company gives them additional powers to determine how and when they receive their remuneration. As such, there are special rules to ensure that they do not have a financial advantage just because they are a director.
Salary or bonus
A salary payment or a bonus are both subject to income tax and NICs for the recipient and employer’s NICs for the company, subject to the employer’s allowance (i.e. £2,000 for 2020/2021), if claimable.
One difference between an employed worker and a director is that directors are taxed using an annual earnings period, such that NICs are calculated on an annual basis rather than when the monies are withdrawn. Should a bonus be allocated, a director is treated as having been paid when the company records it in its records, whereas an employee is taxed on the date the payment is received.
Benefits-in-kind
Any benefits-in-kind received, whether by employees or directors, are taxed under the same rules. Any non-cash payment provided or funded by an employer is taxable and subject to NICs unless it falls within one of the statutory exemptions or because the employee can claim tax relief such that no tax charge arises.
However, one area of difference centres around trivial benefits.
Trivial benefits
Where the employer is a close company, exempt trivial benefits provided to a director or office holder of the close company (or to a member of their family or household) are capped at £300 a year (subject to the usual £50 cap on each exempt trivial benefit).
Loans
One benefit which is more likely to be granted to a director than an employee is an employer paid or subsidised mortgage. Should the loan be interest-free, the same benefit-in-kind rules apply for both employee and director, the liability being the difference between the interest paid (if any) and the ‘official rate’ (currently 2.5%) taxed at the employee's marginal tax rate. Loans amounting to less than £10,000 do not attract a benefit-in-kind charge.
However, there is one difference between an employee and a director, in that such loans must be repaid to the company within nine months of the end of the company’s accounting period; otherwise, the company is liable to pay a tax charge of 32.5%. The director can clear the loan with salary or dividend (or even expenses) and the company can only recoup this additional charge after the loan is repaid. Despite this charge on non-repaid loans, directors who are higher or additional rate taxpayers may still find it beneficial to borrow from their company. If an employee's loan is written off, a PAYE and NICs liability arises on the amount released or written off at the time this occurs unless the release or write-off takes effect on or after the death of the employee.
If the loan exceeds £10,000 at any time during the tax year (or for more than one complete loan period) it is treated as a beneficial loan for the whole tax year, not just the period that it exceeded £10,000.
Practical tip
However, a benefit is only worthwhile if it is something that the director wants or needs. In this lockdown there may be a need for a bike. Company-provided bikes do not attract a benefit-in-kind charge so long as they are made available to all employees and mainly used for getting to work. The company can purchase the bike directly and reclaim VAT where relevant, and claim capital allowances of 100% (i.e. the annual investment allowance).
