Some of the queries we’re receiving from even financially-shrewd limited company contractors suggest a dividends refresher might be in need, writes Christian Hickmott, managing director of Integro Accounting.
The common take-home, salary-dividend scenario
Well, let’s get down to brass tacks. Increasing take-home pay and optimising tax efficiency is the aim – and the reason many limited company directors choose to pay themselves a mix of both salary and dividends.
Undoubtedly, when issued correctly and considered an appropriate measure (bearing in mind your personal tax liability), dividends can achieve exactly that. But there are absolutely a few things that should be considered.
In fact, here are six dividend considerations for limited company contractors looking to make their money go further.
1. Think ‘Big Picture’
Once you see the money rolling into your business account you may be dreaming of how you’ll be spending it! But being overzealous could see you ill-prepared.
Unlike salary, dividends are not allowable expenses for corporation tax, so be aware that they can only be paid to shareholders from the limited company post-tax profits, which is the money left in the business only once VAT, corporation tax and any other expenses and liabilities have all been considered.
2. Be across the impact of receiving dividend income
Often, individuals may not realise the impact of taking a dividend until they receive their personal tax liability. Income tax on dividends is due to be paid the January after the tax year in which you received the income – so if you’ve received a dividend payment in February 2023, the tax will be due in January 2024. If you’re aware this is coming there’ll be no surprises. If you’re not, you’ll need a contractor accountant (like us!) who undertakes regular tax planning, as visibility of what you’ll owe ahead of time is a must.
3. Understand your allowances
In addition to your annual personal tax allowance, the dividend allowance also permits you to take up to £1,000 per year (current allowance rate for the tax year 23/24). This sum can be taken from the business, tax-free – no matter how much other income you have earned.
4. Know the rules
You can only use current profit (from the current tax year) or undistributed profits from previous years if not already distributed.
Dividends taken in excess of the available profits will need to be repaid to the company.
5. Is your contract outside IR35?
Dividends can only be issued for income from contracts falling outside of IR35, so if your contract falls within IR35 (‘inside IR35’) then you may not have any profits in the company to legally issue any dividends. This issue can be all too easily overlooked by those PSCs that take on a mix of contracts, in terms of the status of those contracted assignments.
6. Declare and document clearly
To pay a dividend properly in the eyes of HMRC, you must hold a directors meeting to declare it, so you’ll need to keep a record of the minutes on file.
You’ll also need to issue a tax voucher for any dividend payment. This also helps to demonstrate that your dividends and salary payments are separate things for your records. Not having clear records could complicate an investigation or challenge by HMRC.
Should HMRC deem your dividend payment as something else, for example a loan to a shareholder, then said-shareholder would be required to repay it to the company, and there could be temporary corporation tax charges to pay under S455 legislation.
That’s all well and good but you didn’t answer my dividend query!
We would recommend seeking advice from your accountant if you are considering paying out dividends, to ensure the dividends payment is the best decision for both your business and you personally. For more information on dividends, particularly if you have a dividend query we didn’t answer here, reach out to your contractor accountant, us, or ask ContractorUK.