Limited Company Taxation

 

How Tax works with a Company

Whereas a Sole Trader or Partnership is taxed as if it is an extension of the individuals income, a company is taxed differently.

• Corporation Tax is due on profits.
• Directors receive a salary which is subject to PAYE and NI like any other employment – this is deducted as an expense in reaching profit on which Corporation Tax is due.
• Shareholders can receive some or all of the profit after Corporation Tax as a dividend, which is taxed as personal income – Dividend Tax (a form of Income Tax) is applied at a lower rate to dividend income than other income, reflecting that Corporation Tax has already been paid.

In a typical owner managed company where the Shareholders and Directors are one and the same, the norm is to take a small salary up to NI level and dividend for the remainder – but there are a number of inter related issues here, and its easy to fall into traps – an accountants advice is best for your personal circumstances.

At present, 2024-25, the respective tax rates are such that in most cases a simple comparison of personal tax as a Sole Trader or Partnership versus Limited Company favours the former – Sole Trader or Partnership.  However the differential is such that tax is a lesser consideration in choosing business structure versus issues like limited liability for protection; public image; separate entities for VAT or Business Rates.  This means that incorporation purely to save tax isn’t sensible – the wider picture needs to be considered.

 

Corporation Tax

Corporation Tax is paid on company profits – which is turnover less expenses.

Corporation Tax is reported to HMRC on a Ct600 CTSA (Corporation Tax Self Assessment return) along with a copy of the business accounts in a special format known as iXbrl.

The Corporation Tax is due 9 months and a day after the end of the financial year, and the CTSA return due in 12 months after the end of the financial year.  EG:

• Financial year to 31 March 2024
• Pay Corporation Tax 1 January 2025
• File CTSA return no later than 31 March 2025

Corporation Tax rates from April 2023:

• Small Profits Rate – profits of up to £50,000 – 19%
• Main Rate – profits over £50,000 – 25%
• Marginal Small Companies Relief applies  between £50k and £250k
• Caution these thresholds are split equally between connected companies, so if you operate two or more companies, take advice, especially if profit is not equal in each.
• See our briefing on Corporation Tax Rate Rise 2023 – Impact

The Marginal Small Companies Relief is complex, and for most companies – so long as they don’t received dividends from other companies – the rates can be simplified to:

Profit Band	Marginal Rate
£0 to £50,000	19%
£50,000 to £249,000	26.5%
£250,000 plus	25%

 

Salaries and Dividends

Salaries and Dividends are often confusing.  Remember:

• Salaries are a reward for work done
• Dividends are a return on investment in shares

In a small company Directors and Shareholders are normally the same, so there is merit in looking for the optimum salary / dividend split.    Depending on personal circumstances that tends to be a Salary of around £10,000 to £12,000 and the remainder as dividend.  There are a few factors which impact this, notably

• Tax rates
• NI rates
• Cash requirements by the company owner

On the last point, cash requirements, company funds which aren’t needed immediately can be left as retained profit in the company, which defers tax, however the tax will catch up with you when you withdraw the funds, although if you anticipate having a time when you won’t be earning as much there can be merit in retaining profits until then and drawing them at a lower tax rate.  Advice will be needed on this.

 

Payroll, Income Tax and NI

Directors are considered employees of the company, even if they control it.  Therefore the salary drawn from the company needs to be run under a payroll and deductions made via PAYE (Pay As You Earn).

There are three elements to the deductions here:

• Income Tax on the salary – often this will be £nil as the typical small directors salary will be under tax allowances
• Employers National Insurance – this is borne by the employer, so in the company accounts there is an expense for directors salary plus the Employers NI.
• Employees NI.  This is a deduction from directors salary as it is borne by the employee.

Payroll generally needs to be run monthly and reported electronically to HMRC via RTI contemporaneously.

 

National Insurance

This is only charged on earned income, eg the salary drawn from the company.  It is not charged on dividends or income like rent.

Employees NI (Primary Class 1 NI) is deducted from employees wages, at 8.0% on earnings over £242 a week and at 2.0% on earnings over £967 a week (2024/25 rates).

Employers NI (Secondary Class 1 NI) is paid by employers, and thus sometimes called a “tax on jobs” – the rate is 13.8% on weekly pay over £175 (2024/25 rates).

National Insurance is charged per source – so if you had two employments for example, or an employment and a self employment, they are assessed to NI separately.

 

Income Tax

Income Tax is charged on all income during a tax year, eg:

• Salary
• Dividends (special tax rates as they are from taxed profits)
• Rents
• Self Employments as a Sole Trader/ Partner
• Interest

The tax rates (2024/25) are:

• £0 to £12,570 – 0%
• £12,570 to £50,270 – 20% – Basic Rate Band
• £50,270 to £125,140 – 40% – Higher Rate Band
• over £125,140 – 45% – Additional Rate Band

The £12,570 0% Personal Allowance tapers out on Incomes over £100,000 at £1 tapered deduction for each £2 of income over £100,000 creating a 60% marginal rate.

Income Tax is aggregated – so all sources of income are added up and the bands above applied.  Normally the calculation is in slices as follows:

• Savings income is the first slice
• Salaries and rental income is the next slice
• Dividends are the top slice

However this slicing order can be overridden if it saves you tax.

As mentioned, as dividends have come out of company profit on which tax has already been paid, they are subject to a special rate:

• There is a £500 Dividend Allowance (2024/25, reduced from £1,000 in 2023/24) – note the DA is part of the regular Basic Rate and Higher Rate bands, and not separate – it is a nil rate on that slice of dividend within the regular tax band
• Dividends over £500 are taxed as follows:

• • 8.75% If they are in the Basic Rate Band
  • 33.75% if they are in the Higher Rate Band
  • 39.35% if they are in the Additional Rate Band

 

Marginal Tax Rate

In most cases, Director / Shareholders of small companies withdraw the bulk of their profits as dividend.  Lets look at Corporation Tax and Dividend Tax together.

Doing so is complicated by various factors, most notably:

• The Corporation Tax rate tapering between £50k and £250k profit – so we will look at both 19% and 25%; and
• Personal Tax rates varying according to the recipients overall income, excluding income from other sources.

Accordingly any generalised modelling is hypothetical except in the simplest of cases.

In the table below we’ve looked at the tax cost on £1,000 of income as Dividend at the Basic, Higher and Additional Rates of Dividend Tax and at both 19% and 25% Corporation Tax.  The impact of Dividend Allowance is ignored.

In reality the Corporation Tax rate may vary between these two extremes.  You’ll see that although the difference in Corporation Tax rates is 6%, the difference in effective tax rate is less, eg for a Higher Rate Tax Payer 46.34% at 19% Corporation Tax versus 50.31% at 25%.  High though these rates may be, bear in mind under PAYE there would likely be Income Tax at 40%, Employers NI at 13.8% and Employees NI at 8%, or for an equivalent Self Employment Income Tax at 40% and Class 4 NI at 6% (2024/25 rates).

Whitefield Tax
Effective Tax Rates on Dividend from a Small Company
2024/25 Tax Rates
Extraction of £1,000 of Profit
Profit	Corporation Tax Rate	Corporation Tax	Profit = Gross Dividend	Dividend Tax Rate		Dividend Tax	Total Tax	Take Home	Effective Tax Rate %
19% Small Profits Corporation Tax Rate
£1,000	19%	£190	£810.00	Basic	8.75%	£70.88	£260.88	£739.13	26.09%
£1,000	19%	£190	£810.00	Higher	33.75%	£273.38	£463.38	£536.63	46.34%
£1,000	19%	£190	£810.00	Additional	39.35%	£318.74	£508.74	£491.27	50.87%
25% Main Corporation Tax Rate
£1,000	25%	£250	£750.00	Basic	8.75%	£65.63	£315.63	£684.38	31.56%
£1,000	25%	£250	£750.00	Higher	33.75%	£253.13	£503.13	£496.88	50.31%
£1,000	25%	£250	£750.00	Additional	39.35%	£295.13	£545.13	£454.88	54.51%

 

Tax Examples

Here are some useful Case Studies for you:

Sole Trader versus Company at various profit levels

Partnership versus Company at various profit levels

Company tax versus personal tax in more depth – a couple of examples

You may also want to look at Case Study 5 of our Examples and Case Studies for Yoga Teacher’s Tax which gives a more detailed example of calculating the taxes for a teacher working via a limited company.