Oh, the joyous world of earning money.
Where your bank account goes from being a desolate wasteland to a bustling metropolis, buzzing with the sweet sound of clinking coins and fluttering notes.
Doesn't sound like your bank account? Ha. Well we can dream.
But when you're self-employed, knowing how to pay yourself and paying yourself full stop, can take you from rags to riches.
Well, you know what I mean.
And one way to maximise your salary and extract profits is through a Limited Company.
Because running a limited company in the UK offers flexibility in how you extract profits.
One of the most straightforward ways is by drawing wages. And then topping up with dividends. However, a lot of the time people are clueless as to how to do that.
But fear not! MPAS UK is here to save the day.
Here's a step-by-step guide to help you understand the process and its implications.
1. Setting Up PAYE:
Before drawing wages, your company should be registered with HMRC's Pay As You Earn (PAYE) system. This system collects Income Tax and National Insurance Contributions (NIC) from employment.
Registration: You can register online via the HMRC website. Once registered, you'll receive a PAYE reference number and be required to operate payroll. This can be done nice and neatly through cloud accounting software (why not give QuickBooks a go?). Not on cloud accounting software yet? Read our blog below to find out more.
2. Deciding on Salary Amount:
Many directors take a combination of a low salary and dividends to maximise tax efficiency. A common strategy is:
Drawing up to the NIC Primary Threshold: This ensures you receive credit for State Pension and benefits without paying NICs. In some cases, I suggest directors to pay themselves up to the tax free allowance threshold, equating to £1047.50 per month and paying £39.95 in Employer National Insurance contributions. It reduces your company profits, reducing your corporation tax bill AND tops your national insurance up.
Remaining Compensation via Dividends: Dividends can be more tax-efficient than a higher salary, but they depend on the company's profit after tax. It is important to note that dividends can only be drawn from the company profits (not just for the year but for the combination of years) BUT tax needs to be taking into account first. For example, if your company made a profit in the year of £10,000 (we're assuming here that there are no other previous profits aka retained earnings), you cannot take £10,000 in dividends. You need to work out what the corporation tax amount is on the profit (£10,000 x 0.19) which in this case would be £1900. So the amount of dividends available for you to take would be...£8100 after tax.
3. Running Payroll:
Each time you pay a salary, it should be processed through payroll:
Deduct Income Tax and NIC: Based on the employee's tax code and NIC category, deductions are made.
Issue a Payslip: Every time wages are paid, the employee (or director) should receive a payslip detailing gross pay, deductions, and net pay.
4. Reporting to HMRC:
Using Real Time Information (RTI), employers must report to HMRC every time they pay an employee, on or before the date of payment.
5. Paying HMRC:
Your PAYE bill (also called a P32) includes the tax and NICs deducted from employees' pay plus the employer's NICs:
Payment Deadlines: Monthly or quarterly, depending on your total PAYE. For most, it's by the 22nd of the following tax month (or the 19th if paying by post).
6. Annual PAYE Tasks:
At the end of the tax year:
Provide a P60: Give your employees a P60, summarizing their total pay and deductions for the year.
Report Expenses and Benefits: Use P11D forms to report any expenses or benefits.
Submit Final PAYE Report: Inform HMRC that you've sent your final payroll report.
7. Consider Director's Loan:
If you need to withdraw more money than the declared salary or dividends, it can be recorded as a director's loan. However, there are tax implications if the loan isn't repaid within nine months of the company's year-end or is more than £10,000. So consult an accountant if you think this could happen.
Drawing wages from a limited company is a routine process but requires careful administration and knowledge of current tax regulations. Regularly consulting with an accountant ensures you remain compliant, avoid penalties, and optimise your tax position.
Don't have an accountant yet?
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Remember, tax regulations and thresholds change regularly. Always stay updated with HMRC guidelines or work with a professional accountant to navigate the complexities of drawing wages from a UK limited company.