Optimum tax efficiency for owner-managed companies

There are several changes coming in for the new tax year. How will they affect owner-managed companies, and how can they use the changes to achieve optimum tax efficiency?

What’s changing?

  • The dividend allowance will fall by 60% to just ?2,000 per individual.
  • The personal tax allowance will increasetp ?11,850.
  • The basic rate band will be ?34,500 – you will need to earn in excess of ?46,350 before paying tax at the higher rate.
  • Scottish taxpayers will be subject to different rules because of the new five-tiered income tax system for 2018/19. For example, the higher rate will start at ?43,430 and will be 41% instead of 40%.
  • The abolition of Class 2 NI has been delayed until 2019/20 at the earliest.

?What does it mean for you?

  • The primary and secondary thresholds for Class 1 NI will both increase to ?162 per week (?8,424 per year). If you are a director or employee, a salary paid below that level will not incur any Class 1 NI liability, but you will still get a full state pension contribution year.
  • Sole traders with profits of ?25,000 in 2018/19 will only save approximately ?700 in tax and NI by incorporating. With profits between ?50,000 and ?145,000 the tax savings are more significant, making incorporation worthwhile. However, where the profits exceed ?145,000 it is actually more tax efficient to remain a sole trader.
  • For 2018/19, one-man companies will see the greatest tax efficiency by restricting the director?s salary to ?8,424, and taking further required cash as dividends.

What if I have already incorporated?

If you have already incorporated, the focus shifts to the optimal balance of salary and dividends. For 2016/17 and 2017/18, a single director company with no other employees was better served by taking a salary equal to the primary threshold, and not the personal allowance. However, the reduction in the dividend allowance means that for a one-man company, the salary equal to the secondary NI threshold of ?8,424 will be the most efficient option for 2018/19.

If the?employment allowance?is available, i.e. where you have other employees, a salary equal to the personal allowance is the best option, but only by ?28. It will certainly not be worth bringing in temporary employees just to secure that saving. However, if you can utilise a spouse, you could achieve greater savings, with the employment allowance as the cherry on the top.