What is our advice for trading as tax efficiently as possible?
Optimum salary levels for 2021/2022. You can take any level of salary you like. Two common options are:
1) £12,570 in order to utilise your full personal allowance or if you have more than one employee in the Company (e.g. a spouse). Having more than one employee through the business will mean you can continue to claim the employment allowance (reduction in employers NI).
2) £9,500 if you are the only employee in your Company. New rules mean the employment allowance is withdrawn where the Director is the sole employee. A salary of £8,464 will still give you a qualifying year for state pension entitlement. Corporation Tax relief is available on the salary and the salary level is below your personal allowance.
The Junior ISA limit has increased to £9,568 for 21/22
You can also invest on behalf of your children in a Junior ISA. For 2021/22, £9,568 can be invested per child and will attract gross interest.
Pay dividends to a spouse previously not receiving dividends. Under the new dividend tax system the first £2,000 of dividends will be tax free regardless of what level of income you have elsewhere. Therefore a spouse who was previously earning over the higher rate threshold and not receiving dividends from your company could now receive £2,000 tax free.
However you structure withdrawing funds from your company ensure you utilise your full basic rate tax band and personal allowances.
Don’t take more out of the Company than you need. The main tax planning opportunity for ltd company contractors remains a long term approach. Ultimately you have the flexibility to decide how much tax you pay by increasing or decreasing dividends. The most tax efficient method will be to take dividends and salary based on the advice in points 1 and 2 above and any extra profit to be left in the Company.
What happens to the money saved within the Company?
You have a few options with this:
1) Make investments in the Company name e.g. shares, bonds, property. Although it is worth getting advice from us first to ensure the trading status of the company is preserved.
2) Make other larger one off dividend payments and paying the higher rate (32.5%) or additional rate (38.1%) tax. There are ways to mitigate this as well. For example income tax relief on EIS and SEIS investments. We can put you in touch with a financial advisor who can advise on these.
3) Leave the money in the Company and when you come to cease contracting you could either:
Draw out £2,000 per year tax free
Liquidate the Company and draw out the total profits in one lump sum at 10% tax rate using Entrepreneurs Relief subject to the new 2 year rule.
4) Contributing to a pension scheme is becoming more and more appealing now especially for those approaching 55 who could draw down on it at that age. The tax relief is two-fold in that the Company would receive Corporation Tax relief at 20% and you personally would draw less from the business in dividends. Consider also paying into a pension scheme for a spouse or partner employed by your business.
Other tax planning advice
Saving for a rainy day is a really good idea. Having considered the benefits of long term savings for things such as pensions you might want to also thing of saving more readily accessible investments.
Ensure you have used up all your ISA Allowances. There are four types of ISA’s you can invest in. For 2020/21 you can invest a total of £20,000 in one ISA or across all one or more type of ISA.
stocks and shares ISAs
innovative finance ISAs
You can also invest on behalf of your children in a Junior ISA. For 2020/21, £4,368 can be invested per child and will attract gross interest.
If you are lucky enough to have some spare “cash” and want to share it with family and friends you can utilise the annual allowances for Inheritance Tax Purposes.
There’s usually no Inheritance Tax to pay on small gifts you make out of your normal income, such as Christmas or birthday presents. These are known as ‘exempted gifts’.
There’s also no Inheritance Tax to pay on gifts between spouses or civil partners. You can give them as much as you like during your lifetime, as long as they live in the UK permanently.
Other gifts will count towards the value of your estate and could attract Inheritance tax unless you live longer than 7 years after the date of the gift.
Certain gifts are exempted from the 7 year rule.
You can give away £3,000 worth of gifts each tax year (6 April to 5 April) without them being added to the value of your estate. This is known as your ‘annual exemption’.
You can carry any unused annual exemption forward to the next year - but only for one year.
Each tax year, you can also give away:
wedding or civil ceremony gifts of up to £1,000 per person (£2,500 for a grandchild or great-grandchild, £5,000 for a child)
normal gifts out of your income, for example Christmas or birthday presents - you must be able to maintain your standard of living after making the gift
payments to help with another person’s living costs, such as an elderly relative or a child under 18
gifts to charities and political parties
You can use more than one of these exemptions on the same person - for example, you could give your grandchild gifts for her birthday and wedding in the same tax year.