What steps should you be taking to achieve this?
Two-step plan
Because of tax and National Insurance increases, which happen in April there’s more talk than usual about setting a tax-efficient level of profit and income extraction for the new tax year. However, that’s only half the story.
In practice it’s rare that the plans made at the start of a tax year will remain ideal by the time it ends. That means now is the time to consider if the planning you did a year ago needs tweaking, for example, by taking more income from your company or making tax-deductible payments.
1. Using your tax-free allowance
The first step is to check that you’ve drawn enough income from your company so that together with any other income you’ve received in this tax year, e.g. rental income, bank interest, etc., it at least equals your personal tax-free allowance of £12,570. If necessary, draw more income from your company.
2. Using your rate bands
Next, aim to use all of your basic rate band; in England and Wales that’s £37,700. Taking dividends is the most tax efficient way to achieve this. The tax rate is 8.75% until your total income exceeds the basic rate band, compared to 20% for salary or other income.
Tip. Your tax-free allowances and basic rate band can be greater than the figures stated if you pay tax-deductible expenses, e.g. personal pension contributions and gift aid payments. These increase the amount of income you can receive tax free or how much of it is taxable at the basic rate of tax.
Tip. If you’re in the position that you want more cash now but taking more income from your company would be taxable at higher rates, consider borrowing the cash from your company as a director’s loan in this current tax year and then repaying it after 6th April, by declaring dividends then. This gives you another bite at the cherry to keep your income tax at the basic rate only.
Profits don’t have to be taken!
Don’t feel that you always have to remove available profits from your limited company.
If the money is not a necessity to fund your living requirements then you can leave the profits in the business and declare dividends in later months or years. Alternativley you could qualify for Business Asset Disposal Relief and withdraw the retained profits in the future, when the business is closed, thus only paying tax at 10% on the funds.
Remember if you work as a contractor then you may need to keep reserves in the business to support you in between contracts, known in the sector as a war chest!
Pump up your pension…
If your personal income is likely to push you into the higher tax band then pension contributions are a great way of reducing your liability, as well as saving for your future. If paid from the limited company they also reduce it’s Corporation Tax bill so win : win!
If you don’t yet have a pension in place and need some advice then get in touch as we work with a number of Independent Financial Advisers who would be happy to help.
Give to charity
If you make a charitable donation under the Gift Aid scheme, the charity can claim back 20% basic rate tax on any donations.
Using Gift Aid can also generate a refund for higher rate and additional rate taxpayers. Higher rate taxpayers can claim back the tax difference between the higher rate and basic rate on the donation.
A cash gift of £80, made under the Gift Aid scheme, will generate a refund of £20 for the charity, which receives £100. The donor claims back tax of £20, making the net cost of the gift only £60.