Is £10k the optimal 2014/15 salary when 10% dividend tax credit is factored in?

[minstrel]

There has been a lot of discussion on salary for 2014/15 and the general consensus seems to be that £10k (personal allowance) is the optimal amount.

The logic is that as there is a £2k employers NI rebate, the net cost to the limited company for salary taken above the NI thresholds and below personal allowance is 12% (Employees NI).

If the additional salary (above NI threshold) were not taken then this would be subject to Corporation Tax at 20%. So it looks like it is an easy decision to take £10k salary and pay 12% Employees NI instead of 20% CT.

However, it's not quite so clear cut if you take into account the 10% tax credit on dividends.

If we assume £8k salary is taken and compare the tax difference on £2k taken as either additional salary or dividends:

£2k profit as salary

Salary: £2,000
Employees NI: £240
Net received: £1,760


£2k profit as dividend

Profit: £2,000
CT: £400
Dividend: £1,600
10% Tax credit: £177.78


The dividend option gives a dividend + tax credit of £1,777.78 which is slightly higher than the salary option. The 10% tax credit isn't repayable but I think can be offset against other tax liabilities.

Furthermore, the dividend example above isn't using the full £2k remaining of the £10k personal allowance, so a £1,800 dividend can be taken which allows even more profit to be extracted from the company without incurring higher rate tax:


£2k dividend

Profit: £2,250
CT: £450
Dividend: £1,800
10% Tax credit: £200


By my calculations this means it's optimal to set salary at the NI threshold (£7,956), as long as you have other income to offset the tax credit.

I'm not 100% sure on this, so I'd be grateful if someone could point out any flaws in my reasoning.

[TheCyclingProgrammer]

Have you read the previous threads on this? If you're the sole shareholder then £10k is the way to go. My accountant and several on here have confirmed this.

Once again here's a link to the spreadsheet I made:

https://docs.google.com/a/lukeredpat...rive_web#gid=0

Take home is virtually identical but at a lower cost to the business on £10k.

HOWEVER, if you are not the sole shareholder, then £10k might not be the most optimal if your spouse/partner has shares as the extra salary will reduce the amount of dividends you can take up to the higher rate threshold and consequently, the dividends the other shareholder receives, which might reduce your overall household take home.

For this reason, I personally will be continuing with a salary of £646 a month as before.

[minstrel]

Have you read the previous threads on this? If you're the sole shareholder then £10k is the way to go. My accountant and several on here have confirmed this.

Yes - I've read a lot of the threads and until I did the full calculations I thought £10k was the way forward too.

Once again here's a link to the spreadsheet I made:

https://docs.google.com/a/lukeredpat...rive_web#gid=0

I've looked at your spreadsheet too and can't how that takes into account the 10% tax credit?

I personally will be continuing with a salary of £646 a month as before.

I think this should go up to £663 next year as the NI thresholds go up to £153 per week.

[TheCyclingProgrammer]

I'm not sure I understand what you mean about the tax credit. It's applied to your dividends and can't be used against anything else.

The tax credit is accounted for in my spreadsheet when grossing up the dividend to find the maximum net dividend up to the higher rate threshold.

Thanks for the heads up on the NI threshold. I'll put it through my spreadsheet to work out what's optimal for me.

[minstrel]

I'm not sure I understand what you mean about the tax credit. It's applied to your dividends and can't be used against anything else.

The tax credit is accounted for in my spreadsheet when grossing up the dividend to find the maximum net dividend up to the higher rate threshold.

Sorry - I'm not being clear. I meant to say I'm not sure your spreadsheet accounts for the unused £2k of personal allowance which could be used to offset ordinary 10% dividend tax in the lower salary scenario.

As I understand it, when a dividend distribution is made it's treated as 10% tax already having been paid. If your company distributes £90 this is treated as income of £100 and a notional £10 of tax that has been paid already (the 10% tax credit).

As the ordinary rate for tax on dividends is 10%, the tax credit normally matches the ordinary dividend tax and there is no further tax to pay.

However, if the dividends fall within personal allowance then there is effectively 10% that has been overpaid.

Historically, this 10% tax credit could be reclaimed so you could get a cash refund from HMRC. However, they changed the rules (in the 1990s I think) and now the tax credit is not repayable. In other words, if your total "10% tax credits on dividends from UK companies" exceeds "Income Tax due after allowances and reliefs" (definitions from Self Assessment Tax Calculation) then the "Income Tax due after dividend tax credits" is £0 (i.e. it never goes negative).

However, if you take dividend income above higher rate threshold or have other income then this will increase your "Income Tax due after allowances and reliefs" and you will be able to utilise the 10% tax credit.

I'll check the calculations next tax year on HMRC SA form.

Another way of looking at it is that £10k salary is only optimal for a sole shareholder if you have no other income and don't pay yourself higher rate dividends.

[ASB]

If you have other inco e you may be right. But the key thing is to get tax allowance of income wjich doesnt suffer any tax. This is either rental or sskaty or s/e income. Though in this scenario the proper amount of salary fom myco would br nil.

Use your sa account yo run the various scenarios for your exact personal situation. Manually factoring in ni of course.

[northernladuk]

If you have other inco e you may be right. But the key thing is to get tax allowance of income wjich doesnt suffer any tax. This is either rental or sskaty or s/e income. Though in this scenario the proper amount of salary fom myco would br nil.

Use your sa account yo run the various scenarios for your exact personal situation. Manually factoring in ni of course.

And so ends the lesson on why you shouldn't post on forums when you are as pissed as a fart.

[ASB]

And so ends the lesson on why you shouldn't post on forums when you are as pissed as a fart.

Visually impaired and no text to speech on the phone unfortunately. Makes it somewhat difficult to read back what I have typed.

That previous attempt did fall short of even my usual low standards for typing accuracy.

[Martin at NixonWilliams]

However, if the dividends fall within personal allowance then there is effectively 10% that has been overpaid.

Strictly speaking this is correct, but there is a restriction on the tax credit given. For example, if in 2013/14 a salary of £7,696 is taken and gross dividends of £33,754, the calculation would appear as:

£3,201 Tax due
(£3,375) Tax paid (tax credit)
£174 Restriction on tax credit available
£0 Tax payable

The restriction is 10% of the difference between the salary paid and the personal allowance ((9,440-£7,696)*10%), i.e. because of the dividends falling within the personal allowance.

Most if not all self-assessment software should work it out this way but there are easier ways of calulating the tax payable on the dividends if being done manually.

I hope this helps.

Martin

[Lumiere]

What is the most optimal salary for 2 shareholders, 60/40 split, no other income.
Can £7,956 be paid to the director with 60% shares and £10,000 to the other shareholder with 40% shares ? The idea is to use the other shareholder's tax allowance close to maximum.