Dividend tax: Is incorporation worthwhile?

Dividends file
iStock_dividends_Olivier Le Moal
Matt Bailey
Founder
Aegia Cloud Systems
Share this content
Tags

The new dividend tax has arrived. As from 6 April individuals can earn up to £5,000 in dividends without any income tax charge, but any amounts received above this level will be taxed at 7.5%, 32.5% and 38.1% depending on the tax band.

This has left many practitioners wondering how these new rules will affect their small company clients, and whether it still makes sense to incorporate. This article looks at both questions for businesses with various levels of profit.

So how will the dividend tax affect clients already running one-man band companies?

The table below shows the total tax bill (i.e. both corporation and income tax combined) for one-person companies with profits of £50,000, £100,000 and £150,000. All our calculations assume that business owners draw salaries from this profit equal to the NIC primary threshold (£8,060 for both years), and that all post-tax profits are paid as dividends. And all the resulting tax figures are rounded to the nearest £100.

Total tax bills for a one-person company...

Register with AccountingWEB for free to read the rest of the article.

Please Login or Register to read the full article

The full article is available to registered AccountingWEB.co.uk members only. To read the rest of this article you’ll need to login or register. Registration is FREE and allows you to view all content, ask questions, comment and much more.

About MattBailey

About MattBailey

Founder of Aegia Cloud Systems (Gbooks), the leading cloud-based tax and accounts system.

Replies

Please login or register to join the discussion.

avatar
06th May 2016 10:49

the most important benefit is the control the director/shareholders get of when and how much higher rate tax to incur- if your income can be £.5m in one year and well under £100k for later years then a plain vanilla limited co has to be the sensible structure

Thanks (7)
06th May 2016 15:50

Another consideration is the age of the client. If they are approaching pensionable age then you need to factor in that they will no longer pay NIC. There is no upper age limit on dividend tax.

Thanks (6)
to jon_griffey
09th May 2016 15:37

[quote=jon_griffey]

Another consideration is the age of the client. If they are approaching pensionable age then you need to factor in that they will no longer pay NIC. There is no upper age limit on dividend tax.

Thanks (0)
avatar
09th May 2016 14:33

There are many factors to consider when looking at this question. Whilst this article processes the 'raw numbers' in the most simple case of total withdrawal of all profits and is useful to that extent, practitioners should be aware of the clients full circumstances and preferably future plans when advising on whether to incorporate or not.

I have some clients that leave some of the profits within the company, some that only withdraw what they need, and others that take out everything (and sometimes more, always fun to explain what they need to do to fix that- spend less!). Each of them is different.

Thanks (5)
avatar
09th May 2016 14:40

Far too simplistic an approach!.. and fundamentally the wrong question...

Thanks (6)
avatar
to colinstewart
09th May 2016 15:12

Then what is the correct question??

Thanks (1)
avatar
09th May 2016 15:06

If you draw a salary up to the amount of the personal allowance this will trigger a liability to NIC at 12% but will save CT at 20% and as long as you are still able to claim the Employer's NIC allowance will produce a further small saving

Thanks (1)
09th May 2016 15:19

With the introduction of the new dividend tax, there is a lot of apprehension among people. In the previous system, basic-rate taxpayers were exempted from paying any tax on the dividends but higher-rate taxpayers were charged a tax at a rate of 25 per cent and additional-rate tax payers pay 30.56 per cent. Learn more at http://goo.gl/T67rb9

Thanks (1)
avatar
By norstar
09th May 2016 15:21

Retention of profits and a capital gain on exit route still makes this structure appeal more than sole trade to many given the lower CGT rates. As long as you don't fall foul of the anti-phoenixing rules of course.

Thanks (1)
By cfield
to norstar
10th May 2016 14:06

norstar wrote:

Retention of profits and a capital gain on exit route still makes this structure appeal more than sole trade to many given the lower CGT rates. As long as you don't fall foul of the anti-phoenixing rules of course.


It's not just the anti-phoenixing rules rules you have to worry about. They're also widening the scope of the transactions in securities legislation to catch so-called "money-box" companies where the main reasons (or one of the main reasons) for the liquidation was to avoid tax.
Notwithstanding this, there are still many good tax reasons (plus a few non-tax reasons) why a company might remain the better choice, even if you take all your profits as dividend and make more than £150k.
For instance, employer-supported childcare is ending soon. Young parents working through their own limited company might be better off using their own vouchers scheme rather than the new Government vouchers.
Thanks (0)
avatar
09th May 2016 15:22

I was at the ICAEW Tax Faculty conference and they were saying that the magic number for self-employment v. single person limited company was profit of £55,000. This article backs that up which is encouraging.

Anyone for a partnership?

Thanks (0)
avatar
By mabzden
to petestar1969
09th May 2016 15:55

Sorry, I'm not trying to be a smarty-pants but where does the £55K figure come from?

Thanks (0)
avatar
to mabzden
10th May 2016 18:44

My guess is that it depends on the size of the Bill you are going to give him - at £30,000 the saving is just over £1,000 so I'd guess the firm that made the calculation plans to charge about £1,800?

Thanks (0)
avatar
to petestar1969
09th May 2016 15:56

As others have suggested Tax is only one consideration for incorporation. The main one being the preservation of personal assets if the company goes bust.

Its no good saving tax if you lose your home because of business problems

Thanks (2)
09th May 2016 16:00

I agree with all Matt's calculations but would add that many director shareholders who take salary of say £8,000 are in a position to benefit from the savings rate band and the personal savings allowance. If they have financed the company by way of loan then interest of eg £6,000 could save a further £1,560 for a basic rate director and over £1,200 for a higher rate director.

Thanks (1)
avatar
to Tim Good
12th May 2016 17:05

can someone please help me out here - where does Tim's £1,560 come from - yes i do subscribe to the excellent Tax TV too

Thanks (0)
avatar
to nick farrow
12th May 2016 17:41

maybe £6,000 @20% CT saving £1,200 plus 7.5% £450 giving £1,650 not £1,560

Thanks (0)
to nick farrow
13th May 2016 17:38

The net income increases by £6,000 of tax free interest but reduces by the dividend reducing by £4,800 (the £6,000 less 20% CT) but the reduction in dividend saves tax at 7.5% ie £360. Net saving £1,560.
Have a look at https://www.absolutetax.co.uk/products/absolute-taxpert-apps for my new calculator!

Thanks (0)
avatar
By mrhammy
09th May 2016 16:01

You would have to ensure that you fully understand your clients position before advising here. Given the nature of how limited companies work tax wise, it is very unlikely that all post tax profits will be drawn from a company and as such any comparisons being made may be against self employment should be done so with careful consideration.

Thanks (2)
avatar
09th May 2016 16:13

As part of the decision, to what degree has anyone looked at or used Company pension Contributions to reduce, or eliminate, CT?

Thanks (0)
avatar
to Derek Lorton
09th May 2016 23:28

I agree with Derek that the pension contribution factor needs to be addressed as part of the equation. Thus the age and pension build -up position is relevant.

Thanks (0)
avatar
09th May 2016 19:59

Unfortunately many people are forced to incorporate by their clients (e.g. contractor agencies almost never allow sole traders or other formats such as LLP), so the question is largely academic.

Thanks (1)
avatar
10th May 2016 10:44

This is a useful over view. It is simplistic, but a simplistic view is always useful so that the needs of individual clients can be built in to develop the model. We do need to remember that each client will be different and that one model cannot answer all client needs.

The age of the client is important, and we should also remember that pension contributions can be made out of a LTD on which CT relief can be gained and which can be taxed as income on the individual when the pension is received. The dates of receipt can now be planned to a certain extent to be as tax beneficial as possible.

An interesting amendment to the model would be the introduction of a share holding company into which to collect the dividends from the profit making company. This can then be used to defer the transfer of dividends to the "owner" in order to plan the incidence of tax. This can be useful when the various "owners" are not related and are of different ages.

Another aspect that should be considered is the charging of interest on loans to the company by "owners".

Thanks (0)
avatar
16th May 2016 12:35

I often find that any tax saving on incorporation is blown out of the water when you start looking at funding the business vehicle. The problem often stems from ambitious private use adjustments for the unincorporated business.

Thanks (0)