If you are a company director, it is important to be aware of Income Tax and National Insurance rates and thresholds, Dividend Tax requirements, and the way in which you can pay yourself through a limited company. Ideally, you should consult an accountant for the best professional advice and tax-saving strategies, but we’ll provide a brief overview of tax rates and allowances to get you started.
Please note: The tax rates and allowances stated in this article apply to the 2021/22 tax year, which runs from 6th April 2021 to 5th April 2022.
What tax does a company director pay?
Directors of limited companies are usually also shareholders. In fact, many small startup companies are one-person operations, whereby the only person who owns, manages, and works for the company is the single director-shareholder-employee. Whatever the setup, the following tax rates and allowances may apply:
As a company director, you are normally classed as an employee for tax purposes, so you will have to register your company as an employer and operate Pay As You Earn (PAYE) as part of your payroll. You will be required to pay Income Tax and Class 1 National Insurance Contributions (NIC) through PAYE on the wages you receive from the company.
No Income Tax will be due on the first £12,570, which is your tax-free Personal Allowance for the 2021/22 tax year. Above that amount, you will start paying tax on your earnings.
Employee’s National Insurance
You will have to pay 12% Class 1 Employee National Insurance on wages between the Primary Threshold (£184 per week/ £797 per month/ £9,568 per year) and the Upper Earnings Limit (£967 per week/ £4,189 per month/ £50,270 per year). Above the Upper Earnings Limit, you will pay 2% NIC. These deductions will be calculated and taken directly from your wages through PAYE.
Employer’s National Insurance
The company will also have to pay 13.8% Class 1 Employers’ National Insurance on your earnings (and the wages of any other employees) above the Secondary Threshold (£170 per week/ £737 per month/ £8,840 per year).
However, you may be eligible to claim up to £4,000 Employment Allowance on your Employers’ National Insurance Contributions if your company has more than one employee.
Dividends are paid from profits after the deduction of 19% Corporation Tax. This means that companies pay tax on this income before it is distributed to shareholders. The rules on Dividend Tax changed on 6th April 2016, at the beginning of the 2016/17 tax year. Previously, there was no personal tax liability on dividend income for Basic rate taxpayers.
As a result of these new rules, it’s not quite as tax-efficient to take a low salary and higher dividend payments through a limited company as it once was, though it is a far simpler system. The notional 10% Dividend Tax credit, which most people struggled to understand anyway, has been abolished and replaced with a £2,000/year tax-free Dividend Allowance.
Above £2,000, you will be required to pay the following rates of tax on dividend income received from your company:
- 7.5% on income within the Basic-rate tax band (£12,571 to £50,270)
- 32.5% on income within the Higher-rate tax band (£50,271and £150,000)
- 38.1% on income within the Additional rate tax band (above £150,000)
Dividend income is still paid from post-tax profits, so your company will continue to pay 19% Corporation Tax on these profits before you pay yourself dividends. The idea behind the changes is to discourage people from setting up a company simply to pay less tax – i.e., by taking most of their income as dividends rather than as a wage.
Instead, the government hopes to incentivise company owners to receive dividends through shares held in ISAs and pension schemes. Also, they want you to pay more tax.
Either way, you’re still better off setting up your business as a limited company, rather than operating as a sole trader. You just have to be strategic with your tax planning and remuneration, which any decent accountant or tax advisor will be able to assist you with.
Class 2 and Class 4 National Insurance Contributions
Whilst not applicable to directors unless they are also shareholders and/or they receive additional untaxed income on top of their salaries, it’s worth mentioning these types of National Insurance for clarity.
Class 2 and Class 4 National Insurance are both paid through Self Assessment by people who are self employed (i.e., sole traders and members of partnerships); people who receive income that is not taxed through PAYE (e.g., shareholders); and/or people who do not pay Class 1 NIC through PAYE on certain types of taxable income (e.g., directors in receipt of expenses, directors’ loans, or untaxed bonuses).
Class 2 National Insurance is payable when you start earning above £6,515 per year (the Small Profits Threshold). It is charged at a rate of £3.05/week). You need to pay Class 1 or Class 2 NIC to protect your entitlement to state pension and benefits, so it’s really important that you are making one of these contributions, depending on whether you are employed or self-employed.
Class 4 National Insurance is charged at a rate of 9% on untaxed income between £9,568 per year (Lower Profits Limit) and £50,270 (Upper Profits Limit). Income above the Upper Profits Limit is liable to 2% Class 4 NIC.
If you receive any form of untaxed income from the company or elsewhere (e.g., dividends from shares, a director’s loan, rental income, etc), you must register for Self Assessment to report this income and pay any additional tax and National Insurance that may be due.
The same rule applies if you are not a PAYE employee of the company but you receive shareholder dividends from the business. In such instances, you must register for Self Assessment, file an annual tax return to report your income, and pay any necessary Dividend Tax and voluntary NIC on your earnings.