If you’re one of the UK’s many successful business owners, you’re probably wondering how you can maximise the income and profits you take from it. Here, we explore the most common tax-efficient ways of taking money out of your business.
Running your own business allows you to have more freedom in how you pay yourself than an employed individual. Because of this, you can take advantage of certain tax rules that allow you to draw your remuneration in various tax-efficient ways.
Broadly speaking, these remuneration options fall into three categories: salary, dividends and pension contributions. These are covered in more detail below.
Before diving in, it’s important to remember that the rules relating to tax are complex, subject to individual circumstances, and can change at any time. As mentioned throughout, it’s important to seek professional advice before making any decisions.
Taking a salary
Most business owners will arrange to take a salary from their business, paid into their personal bank accounts.
Your tax-free allowance:
- In tax year 2023/24, you can take the first £12,750 of your income tax-free. This is known as the personal allowance. For any part of your salary between £12,750 to £50,270 (basic taxpayer) you’ll pay 20% income tax, then 40% on anything over £50,271 (higher rate taxpayer), and 45% on any salary over £125,140 (additional rate taxpayer).
- By keeping your salary above the £12,750 personal tax-free threshold, you’ll ensure you receive your full tax-free allowance and build up your qualifying years for a full state pension.
Running your own business gives you the freedom to take advantage of certain tax rules
Paying yourself dividends
Having maxed out your personal tax-free allowance by paying yourself a salary, you can top-up your monthly income with company dividends. Dividends can be paid to anyone who owns a share in your business – as long as the company is making enough profits to cover the dividend payments.
The tax benefits of using dividend payments
- Dividend payments attract a lower rate of income than a salary. Also, there are no National Insurance Contributions due on dividends.
- For tax year 2023/24, you are entitled to the first £1,000 in dividends tax-free. This is called a dividend allowance. This means, together with your personal allowance, you can earn up to £13,750 before paying tax on it.
- Any dividends paid out above the dividend allowance level are taxed at 8.75%, as long as your total annual income is below £50,270. If you’re a higher rate taxpayer, dividends that take you over the £50,271 mark will be taxed at 33.75%, and any that take you over £125,140 will be taxed at 39.35%.
| Basic Rate | Higher Rate | Additional Rate | |
| Salary | 20% | 40% | 45% |
| Tax threshold | £12,750 – £50,270 | £50,271 – £125,140 | Above £125,140 |
| Dividends | 8.75% | 33.75% | 39.35% |
| Tax threshold | £13,750 – £50,270 | £50,271 – £125,140 | Above £125,140 |
Remember, dividends are added on top of other income. So, if you receive income from other sources, such as child benefits or other investments, you may find this pushes your income into a higher tax bracket, leaving you with a higher tax bill than you expected.
Pension contributions
Another way to extract profits from your business tax-efficiently is by making employer pension contributions to your pension pot.
– Your annual allowance
Each year you can contribute a certain amount (the pension annual allowance) to your pension fund, completely tax-free. You’ll get tax relief – effectively a top-up on your contributions – of between 20% and 45%, depending on your income tax rate. For tax year 2023/24, the government has proposed to increase the allowance to £60,000 a year (previously £40,000 per year).
If you haven’t maximised your pension contributions in the previous three years, you can carry forward any unused annual allowance from these years (up to £40,000 per year for each of those years).
– Your lifetime allowance
You may be one of the people who had stopped contributing to your pension because you were nearing the lifetime allowance of £1,073,100. However, the pension changes recently proposed by the government are likely to mean you can start contributing again – without limitation and without facing a tax penalty. The changes, and the details surrounding them, are expected to become law in Summer 2023.
– Tapered allowance
In tax year 2023/24, if your income is over £260,000 (this includes your salary, dividends, and any other sources of income, plus the pension contributions paid by your company), your annual pension tax-free allowance will be reduced. For every £2 you receive over £260,000, you’ll lose £1 of your annual allowance. Once you reach an income of £360,000 or more, the tax-free annual allowance is capped at £10,000.
Again, these figures are different to those of previous tax years. Like the allowances mentioned above, the specific details are set to be confirmed in the coming months. Speak to your financial planner to get the latest information.
Corporation tax benefits
As the business owner, another benefit worth considering is that any pension contributions paid by the company will reduce the business’s overall profit, thereby reducing your corporation tax.
Do bear in mind that you won’t be able to access your pension benefits until 55 at the earliest, so you won’t be able to use it to supplement your monthly income. It’s also important to remember that pensions are a type of investment, so their value can go up as well as down, and you may not get back the amount you invested. For these reasons, always seek advice from a qualified financial planner when considering your options.
Investing in ‘early-stage’ companies
You may find that, having exhausted the ‘mainstream’ options above, reducing your tax bill remains a key objective for you. If you’re an experienced and adventurous investor, who can afford to risk total loss to some of the surplus funds in your business, there may be other options available to you.
These include tax-efficient investments that help early-stage companies reach their next stage of growth. There are several investment schemes, including Venture Capital Trusts (VCTs), Enterprise Investment Schemes (EIS) or Seed Enterprise Investment Schemes (SEIS), that enable you to claim tax relief against your investment.
These schemes come with tax incentives to encourage investors and compensate them for the higher risks they are taking, but they must be held for several years in order to gain those benefits. For example, VCT investors can claim up to 30% tax relief on a £200,000 investment, provided they hold their shares for five years.
Because of the much higher risks involved with these types of investments, they are only suitable for a small number of people who want and can afford to take such risks. Like any investment, their value can fall as well as rise, and investors may not get back the full amount invested.
Amber River Financial Planning for business owners
Amber River financial planners work with businesses of all sizes, providing advice to owners and shareholders on various areas, including tax-efficient profit extraction, business protection, investments and more.
We adopt a holistic approach and can collaborate with other professionals such as accountants, tax planners, and solicitors to ensure that we offer the best advice tailored to your specific business needs.
Get in touch
To speak to us about your investment goals, or to arrange an appointment, call 0800 915 0000, or alternatively use our contact form here.
Disclaimer:
The information within this article was correct at the time of publishing, but laws and tax rules are subject to change. Your circumstances and where you live in the UK also have an impact on tax treatment.
