Best combination of dividends and salary for 2022/23

Although the proposed tax rates and allowances for the new tax year have already been published, the increase in National Insurance contributions has previously been surrounded by  controversyAs a result, The Spring 2022 Budget 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 primary threshold for directors' National Insurance Contributions is effectively £11,908 and not £12,570 (see below). 

We’ll now therefore discuss the best combination of dividends and salary for 2022/23.  You can also read here about the most tax effective combination for the current tax year.

Best combination of dividends and salary for 2022/23

The 2022/23 tax rates and allowances

For the 2022/23 tax year starting on 6 April 2022, the position for English taxpayers 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 2022/23 rates for Scottish taxpayers is different to those taxpayers who are in England, Northern Ireland and Wales.

The new dividend tax rate

The first point to mention is that dividend tax rates are the same for all UK taxpayers. However, the key point to note is that dividend rates will increase by 1.25% from the current tax year. This will obviously impact on the best combination of dividends and salary for 2022/23 that a director/shareholder chooses to take from their company.

Best combination of dividends and salary 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 to pay 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.

In order to determine the best combination of dividends and salary for 2022/23 you’ll need to consider the current national insurance thresholds. These are as follows:

  • 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 you earnings exceed this threshold you are liable to employee's national insurance. The new limit rises from £823.33 per month to £1,047.50 per month from 6 July 2022. This equates to an annualised amount of £11,908 per annum for the 2022/23 tax year.
  • Secondary Threshold - When you earn above this threshold, your company starts paying employer's national insurance. The threshold for 2022/23 is £758 per month or £9,100 per annum (there is no mid-year increase as with the primary threshold).

Best combination of dividends and salary for 2022/23 – Option A

If you qualify for the employment allowance (now 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 surplus employment allowance, we’d recommend you pay yourself a salary up to the personal allowance of £12,570. You can then draw dividends of up to £37,700 without paying higher rate tax. (see rates here).

Adopting this strategy, results in £3,480.17 basic rate tax and Employee's 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) in your pocket after tax.

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

Best combination of dividends and salary for 2022/23 – Option B

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 will increase to £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) in your pocket after tax.

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

Best combination of dividends and salary for 2022/23

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

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

For more useful information, check out our Ebooks here.

And if you'd like to know how we can help you with all of this, or with anything else, feel free to give us a call on 01202 048696 or email us at [email protected].

Alternatively, please feel free to complete our Business Questionnaire here.

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