Reply to: Struggling to understand tax efficiency...

[northernladuk]

Both Mal and Wanderer are right, just depends on where you look at it from. Mal from a business perspective, you run a LTD because that is what a business does. Wanderer just looking at the cash output against another tax vehicle.

Both are right, just depends where you are looking at it from and possibly your reason for using it. Tax advantage or bone fide business.

What it isn't is something for permies to jump in and use whenever they fancy a bit of work in between perm jobs.

[malvolio]

Yeah and the fact that using a LTD company (outside IR35, £100k income, £7,488 salary, 50/50 share split with non working spouse) gives you 40% (£23k) more net income than using an umbrella company is completely incidental...

Yes, that is incidental, and recognises the risks you are carrying by not being an employee. All we're doing is using the law to optimise our company profits, and following the long-established principle that you have every right to pay the tax that is legally due and no more. If Hector (or more accurately, the Chancellor) wants to change that, he has to change the law: until they do I'll use them as written thanks, with a clear conscience.

Seriously, it's your attitude that does the damage, not mine. And just to blow a hole in your argument, I could earn more as an employee than I do as a contractor, even at my healthy day rate, with a lot less risk, as could many of my peers.

[Wanderer]

we use Limited Companies because it's the best way to run the business and smooth the earnings from a variable income stream, it's nothing to do with saving tax

Yeah and the fact that using a LTD company (outside IR35, £100k income, £7,488 salary, 50/50 share split with non working spouse) gives you 40% (£23k) more net income than using an umbrella company is completely incidental...

[malvolio]

Yep, that's right. Alas, that ship has already sailed. It's my first time contracting and was advised by several friends that the limited company route was the way to go.

However, now that I'm considering the various tax ramifications/costs/hassle of closing the company down, I understand that it really should be a long-term venture, as you say.

Thanks again.

That's the whole point and the one missed by 99% of non-contractors and every taxman in Britain: we use Limited Companies because it's the best way to run the business and smooth the earnings from a variable income stream, it's nothing to do with saving tax (although anyone who thinks getting £4 a week tax free is a worth the effort is probably missing the point as well... ).

Bascially, you're not in business, you don't need a Limited Company.

[insomniac]

Yes, you are on the right track. Hold the cash in the company for now. From April 6th you can draw £7488/year salary and ~£32k dividends from your profits (after 20% corp tax is paid).

Alternatively, you could put the money into a pension, use it to start up a business or close the company down and take it as a capital distribution at a much lower tax rate.

Thanks for that. I think the problem I'll have is that if I do go back to a permanent contract, then I'll fall short of the one year qualifying period for claiming Enterpreneur's Relief.

However, I do intend to use some funds towards a pension.

[insomniac]

Yep, although it does the accountants out of business, that's what I would recommend in these circumstances. Don't set up your own company unless its a long term venture - although I get the impression that she has already sailed

Yep, that's right. Alas, that ship has already sailed. It's my first time contracting and was advised by several friends that the limited company route was the way to go.

However, now that I'm considering the various tax ramifications/costs/hassle of closing the company down, I understand that it really should be a long-term venture, as you say.

Thanks again.

[Contreras]

So far I haven't taken any money out of the company at all, and I probably won't -

Don't forget that mileage claims (45p/mile), use of home (£4/week), and reimursement of business expenses can all be paid without incurring a tax liability regardless of other income.

[Waldorf]

Using the calculator below, based on a turnover of £100K then you would retain 72% of your income, this is after taking account of accountancy fees and paying a lowish salary of £7488.

Try the calculator yourself, you can try different scenarios.

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

[Jessica@WhiteFieldTax]

Go brolly and don't worry about it for now. If you are taking a contract to bridge your redundancy gap then setting up a Ltd will be a ball ache you could do without. 2 friends of mine are in the same position hence the advice.

Yep, although it does the accountants out of business, that's what I would recommend in these circumstances. Don't set up your own company unless its a long term venture - although I get the impression that she has already sailed

[Wanderer]

my PAYE income for the year has skewed the tax efficiency of the contract.

So far I haven't taken any money out of the company at all, and I probably won't - the weather forecast is clear for now, but that's apt to change no doubt.

Yes, you are on the right track. Hold the cash in the company for now. From April 6th you can draw £7488/year salary and ~£32k dividends from your profits (after 20% corp tax is paid).

Alternatively, you could put the money into a pension, use it to start up a business or close the company down and take it as a capital distribution at a much lower tax rate.

[insomniac]

Thank you for the useful feedback. I think that's exactly the situation I'm in - my PAYE income for the year has skewed the tax efficiency of the contract.

So far I haven't taken any money out of the company at all, and I probably won't - the weather forecast is clear for now, but that's apt to change no doubt.

Appreciate all the help and advice.

[northernladuk]

If youve already earned over the higher rate threshold this year and are / would be in the 40% bracket, consider leaving the money you invoice for the rest of the year in your company until 2013/2014 tax year. Dont even take it as dividends this year as youll pay the higher rate tax on them. Pay the corpoartation tax at year end on it at 20something percent. The money will still be there next year. then Draw about £7500 in salary to make minimum ni payments of about £4 then draw the rest as dividends upto the 40% limit again. Any extra becomes you warchest. Ie rainy day money should you be on the bench for a while. If your war chest over a few years gets massive, consider expanding the busiess in new directions, taking a year off or retiring. lol. You never have to pay 40% tax if you dont take it from the company and are happy living on about £38k a year. I prefer to take long breaks between contracts than earning loads.

He is a permie taking a contract gig before getting a new job.

[IR35FanClub]

If youve already earned over the higher rate threshold this year and are / would be in the 40% bracket, consider leaving the money you invoice for the rest of the year in your company until 2013/2014 tax year. Dont even take it as dividends this year as youll pay the higher rate tax on them. Pay the corpoartation tax at year end on it at 20something percent. The money will still be there next year. then Draw about £7500 in salary to make minimum ni payments of about £4 then draw the rest as dividends upto the 40% limit again. Any extra becomes you warchest. Ie rainy day money should you be on the bench for a while. If your war chest over a few years gets massive, consider expanding the busiess in new directions, taking a year off or retiring. lol. You never have to pay 40% tax if you dont take it from the company and are happy living on about £38k a year. I prefer to take long breaks between contracts than earning loads.

[Kelstar]

Go brolly and don't worry about it for now. If you are taking a contract to bridge your redundancy gap then setting up a Ltd will be a ball ache you could do without. 2 friends of mine are in the same position hence the advice.

Re: tax efficiency, someone will come along with calcs soon enough. But my 2cents is you are assuming you withdraw the entire amount as dividends. Holding money in the company not only reduce the tax hit upon withdraw (over the upper limit) but you also need to have money aside in case you are out of work. Which is common. That 6 month contract no doubt has a notice period when you might find yourself unexpectedly out of work.

[Clare@InTouch]

It's difficult because you've had so much income in the year to date, so it's skewed. You need to consider a full clean tax year, and then the tax efficiency can clearly be seen in the fact that dividends are tax free up to higher rates, and there's no NI on them.

You need to consider your strategy too. You're never going to be as tax efficient as possible if you withdraw every single penny you can - you may well be much better off just withdrawing up to higher rates, leaving the rest in the company, then closing the company via liquidation when you cease trading. This allows you to take a capital gain which would be taxed at lower rates than higher rate dividends would have been (if current rates of tax prevail, and assuming you have no other gains or have used up your Entrepreneur's Relief allowance already).