The ability to withdraw money from the limited company for the owner/director via the dividend route is particularly helpful to the business community and an incentive for small and medium sized businesses to trade through the protection of the limited company and to enjoy the tax advantages.
Company ‘tax shelter’
One of the advantages of the limited company in the context of the 50% rate of tax is that income tax is only paid when money is withdrawn from the company based on the date of withdrawal so that if large profits are accumulated and not drawn out, whilst there will be a corporation tax liability for the company (at either 20% or 26%), there will not be an income tax liability at the higher rate until the money is actually drawn.
Another advantage of the limited company is the National Insurance advantages of the dividend. A salary at the ‘wrong’ level will attract a National Insurance liability whereas dividends at any level will not.
The self-employed businessman who has not incorporated has some quite hefty liabilities with regard to National Insurance (Class 2 and Class 4) which increased from 6 April 2011. Likewise, if a director of a company takes a large salary, there are high rates of Class 1 National Insurance and also employer’s National Insurance.
Dividend pitfall
For the small business using the limited company as the chosen trading vehicle there is the temptation to try and avoid National Insurance altogether and to simply use the dividend route as the only way of withdrawing profits from the company. In this desire to keep tax and National Insurance to a minimum the proprietor of the business can sometimes overlook National Insurance contributions altogether and this can be detrimental to the claiming of future state pension.
The ideal situation is for all directors to take a salary which not only reflects the national minimum wage but also ensures that all entitlement to future state retirement pension is protected.
Practical tip - The practical tax tip is therefore that directors and shareholders must not just look to minimising the overall liability at all costs but should look at all areas of planning in the round and the National Insurance position should not be overlooked in the desire to maximise savings.
Julie Butler F.C.A.
