Tax liability question...

[Curious Beaver]

Hi all,

I was hoping someone in these forums may be able to help.

I have been working as a contractor through a limited company for the last 5 years and have recently taken up a permanent position with a new company (started 06/11/2014). I’m looking to pay out any remaining profit in the company to myself (the sole employee and director) in the most efficient way possible.

My corporation tax year runs from 01/09/2014 – 31/08/2015.

I carried over a profit of £5049 from 2013/14 and made an additional profit in the partial year (01/09/2014 – 06/11/2014) of £3960. Therefore there is a total of £9009 to declare.

My accountant has advised me to pay the remainder as capital distribution or face a 25% tax if paid as dividends. I don’t really want to close my company at this point, so capital distribution is out of the question (I plan to put the company into a dormant state after all tax liabilities have been sorted, just in case in the future I decide to start contracting again).

Questions I have are:

Why can’t I pay it out as a dividend without being taxed? Surely if I’ve ticked over into the new corporation tax year the dividends tax free threshold of ~30k is refreshed.

Or will I be taxed as personal income because the payment will be made after I started my new position (ie 06/11/2014)? i.e. If I had made the payment before going permanent, would I have been taxed?

And since I ceased contracting and only earned profit for a proportion of the current year, am I only entitled to a proportion of the ~30k dividends tax free threshold?

I made my last dividend payment towards the end of August 2014. It was around 30K (or the max before additional tax is applied). Is the fact that I made that payment so late into the last corporation year an issue with me trying to declare dividends fairly early on in the new corporation year. i.e. in terms personal income tax year (06/04/14 – 05/04/2015) am I exceeding the limit of dividends that can be declared before addition tax is applied?

Apologies if this seems scattered and the terminology a little off. I’m not much of an accountant. I would be grateful for any feedback.

Many thanks.

[jamesbrown]

I'm going to entertain you and assume you're not a sockie (although I have my doubts for someone who has supposedly been contracting for 5 years). Incidentally, if you're not much of an accountant, why are you second-guessing your accountant?

Anyway, you're confusing your company and yourself. Your company pays corporation tax on its profits. You pay dividend tax on your dividend income. Once accounting for the notional dividend tax credit, you effectively pay 25% of the net dividend on distributions above the higher rate threshold (and nothing below this) so, based on what your accountant said, you're already above the higher rate threshold this year. Thus, the tax you pay on a dividend distribution will depend on your earnings for the tax year.

That being said, I question whether it makes sense to keep your company open/dormant. It's simple enough to open another company, if required, and providing you have no intention of phoenixing (i.e. this is not a tax ruse), this should not cause problems. As your accountant mentioned, you can have the company struck off and you can take a capital distribution for amounts below 25k. For amounts above this, an MvL may be an option (but this appears not to be required in your case). I'd reconsider whether you really want to keep your company going, given the potential hassle. Remember that a dormant company is no longer dormant if it receives any income in future (e.g. a small refund from HMRC).

[northernladuk]

New corporation tax year mean 30k divi threshold resets? Wow..just wow... Mal is gonna blow a fuse...

[Curious Beaver]

I'm going to entertain you and assume you're not a sockie (although I have my doubts for someone who has supposedly been contracting for 5 years). Incidentally, if you're not much of an accountant, why are you second-guessing your accountant?

Anyway, you're confusing your company and yourself. Your company pays corporation tax on its profits. You pay dividend tax on your dividend income. Once accounting for the notional dividend tax credit, you effectively pay 25% of the net dividend on distributions above the higher rate threshold (and nothing below this) so, based on what your accountant said, you're already above the higher rate threshold this year. Thus, the tax you pay on a dividend distribution will depend on your earnings for the tax year.

That being said, I question whether it makes sense to keep your company open/dormant. It's simple enough to open another company, if required, and providing you have no intention of phoenixing (i.e. this is not a tax

ruse), this should not cause problems. As your accountant mentioned, you can have the company struck off and you can take a capital distribution for amounts below 25k. For amounts above this, an MvL may be an option (but this appears not to be required in your case). I'd reconsider whether you really want to keep your company going, given the potential hassle. Remember that a dormant company is no longer dormant if it receives any income in future (e.g. a small refund from HMRC).

I am second-guessing this accountant as they have only recently been assigned to my company (after previous one transferred), and issued me with draft account with fairly obvious errors that even someone with little accounting knowledge could detect. I was concerned that my relatively simple company has been palmed of to the new intern.

As mentioned in my initial post, could I not just pay the remaining profit to myself as dividends after 5th April in the new personal tax year? Failing that, as you said, having the company struck of may be the solution.

[Contreras]

As mentioned in my initial post, could I not just pay the remaining profit to myself as dividends after 5th April in the new personal tax year?

The issue is if your new permie salary puts you in the high rate band then the dividends would be too. If you still have basic rate band available then yes dividends could be paid up to that (gross) limit without attracting further tax, assuming no other income.

As you have gathered, your corp. tax year is not the same as the personal tax year.

[TheCyclingProgrammer]

I am second-guessing this accountant as they have only recently been assigned to my company (after previous one transferred), and issued me with draft account with fairly obvious errors that even someone with little accounting knowledge could detect. I was concerned that my relatively simple company has been palmed of to the new intern.

As mentioned in my initial post, could I not just pay the remaining profit to myself as dividends after 5th April in the new personal tax year? Failing that, as you said, having the company struck of may be the solution.

You haven't said what your new permie salary is but let's assume it's at least £42k. In a normal year, that's going to eat up your basic rate band. Even in the current tax year, starting half way through, it's going to eat up about a third of it. Add the £30k you've already taken as a dividend and you're already going to be paying higher rate tax.

If my assumption about your salary is correct then delaying until the new tax year won't change anything.

IF your salary is under the higher rate threshold you might be able to take it out a small amount at a time over several years.

So on the face of it, your accountant is right. Shut down the company and take a capital distribution. Claim ER and pay tax at 10%.

If you think you might return to contracting and that is the reason why you don't want to close the company down, then you could just leave the profit in the company. It will provide a nice little starting warchest if you make the jump back to contracting.

[jamesbrown]

As mentioned in my initial post, could I not just pay the remaining profit to myself as dividends after 5th April in the new personal tax year? Failing that, as you said, having the company struck of may be the solution.

Yes, you can do that, but it's simply deferring the problem. Unless you plan to earn substantially less next year (than the higher rate threshold), some or all of the net dividend income will be taxed by at least 25%.

[Curious Beaver]

Thank you all for the feedback. For the record my perm salary (40k) will be right on the cusp of the higher tax rate. So, technically, I could pay it out after April 5th and not incur the higher rate of div tax?

[jamesbrown]

Thank you all for the feedback. For the record my perm salary (40k) will be right on the cusp of the higher tax rate. So, technically, I could pay it out after April 5th and not incur the higher rate of div tax?

No, you couldn't. Your taxable income is determined over the tax year. If your perm salary over the 2015/16 tax year puts you close to the higher rate threshold (as above), then almost all of the net dividend income will be taxed at 25%, the same as the 2014/15 tax year. There's no getting around this. Earn less, take the tax hit, close the company and take a smaller tax hit or keep the company open with the money in place.

[Chris at CrunchAccounting]

Strike off the company

If your not going to be trading through the limited company for a while (because going perm) it would be best just to close the company. This is the best option as it is relatively cheap to set up a new company, plus you don't have the hassle of submitting yearly accounts/RTI etc.

There are also tax reasons to do this.

Because there is less than £25k profits in the company when you stop trading, closing the company via a DS01 will mean the whole lot can be paid out as a capital distribution. This means the first £11,000 will have no tax (providing you have disposed no other assets in tax year). This is due to the annual exemption on capital gains tax.

This will also mean no dividends will be issued, which will prevent any of these being taxed at the higher rate of tax (25% on net dividends).

Hope this helps.