Tax calculations

**eek** · 22 August 2014, 20:29

Originally posted by smileyface View Post

Where have I made a mistake or are my assumptions wrong?

A permanent employee is paid less than a contractor

If you use the Salary /1000 as a basis of an hourly rate a contractor able to earn £100,000 a year would be on £700 a day or nearer £150,000

**JB3000** · 22 August 2014, 20:45

Originally posted by smileyface View Post

Assuming an annual gross salary of £100K, as a permanent PAYE employee, one is likely to take home around £70K.

What is the figure for a contractor?

Here are my calculations but they don't seem to make sense!

Assume the personal allowance is £10K
Assume I don't claim any expenses
Assume corporation tax is at 20%
Assume dividend tax is at 20%

Starting with £100K, £10K is salary (not taxed because it's the personal allowance).

That leaves £90K.

£90K taxed at 20% for corporation tax, leaves £72K, (ie £90K - £18K), as dividends.

Scenario A)

IF dividend tax is 20% of the ORIGINAL £100K, then dividend tax is £20K, leaving £52K (ie £72K - £20K).

Scenario B)

IF dividend tax is 20% of the REMAINING £72K, then dividend tax is £14.4K, leaving £57.6K, (ie £72K - £14.4K).

Add back the £10K personal allowance, that results in net of either £62K or £67.6K.

Either way, it doesn't seem much better than a PAYE.

Where have I made a mistake or are my assumptions wrong?

I get around £71k for take home pay for dividends, and £65k for PAYE (20%/40%) and NIC (12%/2%) route.

£71k > £65k

Also, a contractor is likely to earn at least £115k (if the equivalent PAYE/NIC salary is £100k) and the contractor can register for the flat rate scheme for VAT to further improve his take out pay.

In addition if you do not need a £72k dividend you can leave the money in the company bank and when you permanently cease to trade, you can withdraw any surplus at a 10% tax rate.

I haven't even got to expenses yet!

In other words, the £71k > £65k is a huge underestimate of the vast difference in take home pay (assuming an outside IR35 status).

The only problem is being out of contract (not much fun, unless you have 6 figure company bank balance).

**TheCyclingProgrammer** · 22 August 2014, 21:57

Wondering where OP is getting this 20% dividend tax rate from.

In the figures quoted, almost £32k of the net profit will incur no further tax, the remaining £40k will be taxed at an effective rate of 25%, meaning total net dividends after tax of £62k, plus the £10k salary.

**jamesbrown** · 22 August 2014, 23:54

Originally posted by TheCyclingProgrammer View Post

Wondering where OP is getting this 20% dividend tax rate from.

In the figures quoted, almost £32k of the net profit will incur no further tax, the remaining £40k will be taxed at an effective rate of 25%, meaning total net dividends after tax of £62k, plus the £10k salary.

Exactly. That's the main mistake that the OP has made; they don't understand how the taxation of dividends works in practice.

Contractors Tax Guide

https://www.nixonwilliams.com/dividend_calculator.asp

**tractor** · 23 August 2014, 07:36

...

OP is also assuming no corporate running costs e.g. bank, insurances, PCG membership, accountancy fees, Ritz teas etc...

**Waldorf** · 23 August 2014, 10:03

These links on my accountant's website may be of use?

http://www.nixonwilliams.com/images/Dividends.pdf

https://www.nixonwilliams.com/contra...calculator.asp

https://www.nixonwilliams.com/net_pay_calculator.asp

**smileyface** · 23 August 2014, 20:08

Originally posted by TheCyclingProgrammer View Post

Wondering where OP is getting this 20% dividend tax rate from.

In the figures quoted, almost £32k of the net profit will incur no further tax, the remaining £40k will be taxed at an effective rate of 25%, meaning total net dividends after tax of £62k, plus the £10k salary.

20% is what I was told.

Based on the assumption of £100K gross, can you spell out the calculations for corporate tax and dividend tax and therefore what the net take home pay would be, assuming NO expenses are claimed.

Thanks

**jamesbrown** · 23 August 2014, 21:04

Originally posted by smileyface View Post

20% is what I was told.

Based on the assumption of £100K gross, can you spell out the calculations for corporate tax and dividend tax and therefore what the net take home pay would be, assuming NO expenses are claimed.

Thanks

The answer has been spelled out for you several times already if you care to follow any of the above links. For example, try entering a day rate of £435 here and then click on "detailed breakdown":

https://www.nixonwilliams.com/net_pay_calculator.asp

If you're a basic rate taxpayer, you'll have no further tax to pay on the net dividend received, because there is a dividend tax credit that offsets the basic dividend tax rate of 10%. You're a basic rate taxpayer if your overall gross income (including the gross dividend) does not exceed the higher rate limit (after subtracting your personal allowance). The gross dividend amounts to 10/9 times the net dividend, which accounts for the dividend tax credit of 10%.

After accounting for the dividend tax credit, a higher rate taxpayer (as in your example) will effectively pay an additional 25% tax on the net dividend received above the higher rate limit. This amounts to 40% of the gross income received above the higher rate limit, because the company's distributable profits have already been taxed at 20% (i.e. via Corporation Tax).

In practice, it is sensible to retain a proportion of the distributable profit in the company, i.e. to build a warchest, and that is generally more tax efficient in the long-term too. It's also important to understand the difference between the tax position of your company and your personal tax position.

**smileyface** · 23 August 2014, 21:15

Originally posted by jamesbrown View Post

The answer has been spelled out for you several times already if you care to follow any of the above links. For example, try entering a day rate of £435 here and then click on "detailed breakdown":

https://www.nixonwilliams.com/net_pay_calculator.asp

If you're a basic rate taxpayer, you'll have no further tax to pay on the net dividend received, because there is a dividend tax credit that offsets the basic dividend tax rate of 10%. You're a basic rate taxpayer if your overall gross income (including the gross dividend) does not exceed the higher rate limit (after subtracting your personal allowance). The gross dividend amounts to 10/9 times the net dividend, which accounts for the dividend tax credit of 10%.

After accounting for the dividend tax credit, a higher rate taxpayer (as in your example) will effectively pay an additional 25% tax on the net dividend received above the higher rate limit. This amounts to 40% of the gross income received above the higher rate limit, because the company's distributable profits have already been taxed at 20% (i.e. via Corporation Tax).

In practice, it is sensible to retain a proportion of the distributable profit in the company, i.e. to build a warchest, and that is generally more tax efficient in the long-term too. It's also important to understand the difference between the tax position of your company and your personal tax position.

Thanks.

Re tax of company and self tax, I intend to take just the max annual personable allowance as income, so I assume that means I will get away with paying any income tax at all.

I have heard that if you leave all your profit in your account and NOT take as dividends but decide to wind down the company after n number of years, you can get away with paying dividend tax altogether.

Is that true?

If so, do you know what is the figure for n?

Tax calculations