Office Holders and Minimum Wage

Under HMRC’s rules, ‘office holders’ (ie. people who hold a position at a company but don’t have a contract, or receive regular salary payments) aren’t subject to the National Minimum Wage Regulations unless there‘s a contract of employment in place.

A low salary can be paid which means you do not have to pay Income Tax or National Insurance Contributions (NICs) on that salary.

The Spring Budget 2022

This confirmed the employee NICs threshold for 2022-23 is increased by £3,000 to £12,570. This aligns the NICs threshold with the Income Tax personal allowance. However, this increase does not take effect until 6 July 2022. As a result, we have taken the view that the annualised lower earnings limit for National Insurance Contributions is £11,908 and not £12,570 (see below).

This increase, perhaps coincidentally, offsets some or all the new 1.25% charge for Employee and Self-Employed NI, depending on total income. Note: the Employer NI threshold was not increased, but the rate of Employer NI is still increase by 1.25%. 

The 2022/23 tax rates and allowances

For the 2022/23 tax year starting on 6 April 2022, the position is as follows:

  • The tax-free personal allowance remains unchanged at £12,570
  • The basic rate threshold stays at £50,270
  • The tax-free dividend allowance remains at £2,000

The new dividend tax rate

Dividend tax rates are the same for all UK taxpayers. However, all dividend rates had a 1.25% increment over the 2021/22 tax year. In percentage terms this is a very significant increase, particularly for the basic rate, and dividends were not previously subject to any NI.

This obviously impacts the best combination of dividends and salary for 2022/23 that a director/shareholder chooses to take from their company.

Optimal dividends and salaries for 2022/23

When you’re a director and shareholder of your limited company, it’s standard practice to extract any post corporation tax profits by paying yourself a low salary with the balance as dividends. This can be advantageous for the following reasons:

  • Paying a nominal salary potentially triggers a national insurance record for your state pension
  • Any payment of a director’s salary can be claimed as a tax deduction by your company
  • There is no National Insurance on dividends

It’s not necessary for your company to distribute all of its post-tax profits to you as dividends. These can potentially be retained and Business Asset Disposal Relief claimed when your company is closed down.

National Insurance thresholds

Lower Earnings Limit – If you pay your salary above this limit, you’ll retain your future entitlement to start pension and state benefits. Fortunately, you don’t actually need to pay any contributions to do this. For the 2022/23 tax year, it is £533 per month or £6,396 per annum.

Primary Threshold – Once your earnings exceed this threshold you are liable to employee’s national insurance. The limit is £1,047.50 per month from 6 July 2022 (previously £823.33 per month). This equates to an annualised amount of £11,908 per annum for the 2022/23 tax year.

Secondary Threshold – When your earn above this threshold, your company starts paying employer national insurance. The threshold for 2022/23 is £758 per month or £9,100 per annum. This is not increasing unlike the Primary Threshold above. But the rate of Employer NI is still increasing.

Option 1

If you qualify for the Employment Allowance (increased to £5,000 per annum) then you could pay a salary up to the level of the personal allowance (£12,570). This might be the case if you and your spouse work full-time in the business or you have other employees. Although this option is only really effective if you haven’t already fully utilised the employment allowance against your existing employee’s salaries.

If you have employment allowance, we’d recommend you pay yourself a salary up to the personal allowance of £12,570. You can then pay draw dividends of up to £37,700 without paying higher rate tax.

This results in £3,480.17 basic rate tax and Employee national insurance to pay. You can see how this is calculated below:

  • Employer’s National Insurance – £522.23 (being £12,570 less Secondary Threshold £9,100 = £3,470 *15.05%). However, in this example, we’re assuming that this is covered by the employment allowance
  • Personal allowance – £12,570 fully utilised against salary
  • No tax for the first £2,000 dividends due to the dividend allowance
  • £35,700 (£37,700 less £2,000) dividends taxed at 8.75% – £3,123.75
  • Employee’s national insurance payable on salary – £87.71 (£12,570 less £11,908 = £662 * 13.25% (assuming NI letter = A)
  • Choosing this option means you’ll have net cash of £47,058,54 (£50,270 less £3,123.75 and £87.71) after tax.

Your company will also have a corporation tax saving of £2,388.30 (£12,570 * 19%) with this strategy.

Option 2

The other alternative is to pay yourself a salary up to the Employer’s National Insurance Threshold (see above). For the 2022/23 tax year this is £758 a month or £9,096 per annum. This threshold is actually lower than the Employee’s National Insurance Threshold which equates to £11,908 per annum (see above).

You can then pay dividends of £41,174 without paying any higher rate tax (basic rate band of £50,270 less salary of £9,096).

At this level of dividends, you will have basic rate tax to pay of £3,123.75 calculated as follows:

  • No tax up to the personal allowance of £12,570 (£9,096 of which is salary and the balance of £3,474 for dividends
  • There will be no tax payable on dividends of £2,000 as this is covered by the dividend allowance
    £35,700 (£41,174 less £3,474 less £2,000) dividends taxable at 8.75% – £3,123.75
  • The net cash you’ll receive is £47,146.25 (£50,270 less £3,123.75) after tax.

Your company will save Corporation Tax of £1,728.24 (£9,096 * 19%) with this strategy.

When might a higher salary be advisable?

If your salary is set at a very low level, or if you don’t take a salary at all, there are disadvantages, such as:

  • Reduced maternity benefits. Technically, to qualify for maternity benefits, you need to be “employed” and thus be compliant with the National Minimum Wage Regulations
  • You could miss out on part of your annual tax-free personal allowance if your salary is paid at the NIC threshold and you have no other sources of income. (You should ensure that you understand the impact of the total amount of salary and dividends you take from your company and other sources of income on your available tax-free personal allowance)
  • Reduced cover under permanent health, critical illness, personal accident or similar policies, where payouts are calculated based on your earnings
  • Issues with National Minimum Wage Regulations if you want to have a Contract of Employment
  • When applying for a loan or a mortgage you may need to meet certain criteria which are unsympathetic to a low salary.
  • However, a specialist self-employed mortgage broker can advise you on the best way to qualify for a self-employed mortgage.

Overall

Despite the increased Primary Threshold option 2 above results in more money in your pocket personally, however, there is also a greater corporation tax saving using Option 1.

So considering the corporation tax saving when taking a higher salary, you would be better off by £572.35 if you choose this option.

Please note that in order to pay the levels of salary discussed in this article, a payroll scheme must be in place with HMRC and the salary should be reported to HMRC through the payroll system on a monthly basis (known as RTI returns).

Finally, please bear in mind that although the tax planning strategy of paying yourself a small salary and then extracting further money from your company as dividends is currently considered relatively low risk, this does not mean that it is risk-free from an HMRC challenge. Higher salaries are generally less tax-efficient but have a lower risk of HMRC attention.

Disclaimer: The information above applies to taxpayers in England. This article is for information purposes only and do please take advice on your own circumstances. We would be happy to assist you with this or any other aspect of tax efficiency.