Whilst sole traders generally pay themselves directly out of any business profits, limited company owners have more options, which creates greater opportunities for tax efficiency and planning.
In addition to paying themselves like employees through PAYE, a company shareholder (who may also be the sole director and owner, particularly in smaller companies) can also draw dividends.
Furthermore, directors’ loans and various employee expenses are available, all of which can contribute to an overall ‘package’ of benefits. This post will discuss these options for paying yourself from a limited company.
Taking a salary from a limited company
SME owners are often directors as well as employees. Like any other business employee, company directors can draw a regular monthly salary through HMRC’s Pay As You Earn (PAYE) system.
Salaries are counted as allowable business expenses, so paying them reduces the amount of Corporation Tax payable on company profits. However, paying a high salary can be less tax-efficient than drawing dividends. We discuss this in more detail below.
Registering for PAYE
If they have not already done so, company directors must register as an employer with HM Revenue and Customs (HMRC) to draw a salary. This is the case even if just a single director also owns the company.
PAYE registration should generally occur before the first payment and not more than two months before this first payment.
To process any salary payments before an employer PAYE reference number has been obtained, it is necessary to:
- Run payroll
- Store full payment submission
- Send a late full payment submission to HMRC
Limited companies (with between one and nine directors) can register for PAYE online. At Rapid Formations we include PAYE registration with our All Inclusive Package, or it can be added to any other company formation package as an additional service on the checkout page.
What taxes need to be paid under PAYE?
Salaried directors will be taxed ‘at source’ through the PAYE system, just like any other employee. Income Tax and National Insurance contributions (NICs) must be deducted, along with additional employer’s NICs, and paid to HMRC.
For tax efficiency, some directors opt to limit their salaries to the NIC Primary Threshold and tax-free Personal Allowance (both of which are £12,570 for the 2024/25 tax year) and then draw further payments via dividends.
The latest National Insurance rates for employees and employers are available online, along with Income Tax rates (England, Wales, and Northern Ireland) and Scottish Income Tax rates for the 2024/25 tax year.
Claiming expenses and benefits from a limited company
Some business owners will decide to make substantial use of expenses and benefits in addition to taking a salary and dividends. There are a whole variety of expenses and benefits which may be claimed by company directors, including but not limited to:
- Pension and retirement benefits schemes
- Computers and office equipment
- Training costs
- Company cars
- Fuel expenses and parking charges
- Medical insurance
- Travel expenses, meals and entertainment costs
- Childcare
Depending on the type of expense, there are different taxation and reporting rules. A full list of expenses and benefits, along with the relevant tax rules and rates, can be viewed at GOV.UK: Expenses and benefits a to z.
What tax needs to be paid on expenses?
Each type of expense or benefit is subject to a different amount of tax and some are tax free (e.g. certain childcare expenses*). Taxes on employee benefits should be reported to HMRC where necessary and paid accordingly under PAYE.
* The following forms of ’employer-provided childcare’ are exempt from tax and NICs and do not need to be shown on form P11D:
- places made available in a nursery provided by the employer
- other qualifying or directly contracted childcare up to the exempt amount for the employee
- childcare vouchers that can be exchanged for qualifying childcare up to the exempt amount
How is tax paid on expenses?
Taxes on expenses can be paid as part of the PAYE system, on a monthly basis, together with the payment of salaries.
Additionally, employers must send HMRC details of any expenses and benefits provided to employees or company directors (and their family or household) in the form of an end-of-year expenses and benefits report.
Form P11D must be filed for each director or relevant employee who has received expenses or benefits. It can be filled in and submitted online. This must be done by 6 July following the end of each tax year.
For more information on completing form P11D, see GOV.UK: How to complete forms p11d and p11db.
Record keeping of expenses and benefits
Full records of any benefits and expenses paid to directors and employees must be retained for 3 years from the end of the tax year to which they relate.
HMRC may request to see these records as part of an inspection. Records retained should include:
- date and details of every expense or benefit which has been provided
- any information needed to work out the amounts which appeared on end-of-year (P11D) forms
- any payment contributed by directors or employees to an expense or benefit
Any correspondence with HMRC in relation to benefits and expenses should also be retained.
Drawing dividends from a limited company
SMEs often have a single shareholder who also acts as sole director and essentially owns and controls the entire company.
In this scenario, or where there are just a small number of company owners with equal rights, it will often be more tax-efficient to pay out dividends as opposed to full salaries via PAYE (although a combination of the two can be most effective).
What is a dividend?
A dividend is essentially a payment made to company shareholders out of profits. It generally needs to be made equally to all shareholders based on the proportion of shares held.
Dividend payments cannot exceed company profits from current and previous financial years.
How are dividends paid out?
A directors’ meeting must be held to ‘declare’ the dividend payment, and minutes of the meeting must be retained – even in the case of a sole director.
In respect of each dividend payment made, a dividend voucher must be written up and include:
- the company name
- date of dividend payment
- names of shareholder(s) being paid a dividend
- the total amount of dividend being paid out
Copies of this voucher must be given to each recipient and also retained for company records.
What is the tax on dividend payments?
Dividend payments are not subject to Corporation Tax. However, they do not count as business expenses and cannot be deducted from the Corporation Tax bill.
Shareholders who receive dividend payments are liable to pay tax on any dividend income above £500 (the tax-free allowance) received in 2024/25. The rate of tax will depend on the individual’s Income Tax bracket. However, the tax rate applied to dividend payments is lower than that for salary payments, with the current rates as follows:
Salary: 20% (basic rate) 40% (higher rate) 45% (additional rate)
Dividend: 8.75% (basic) 33.75% (higher) 39.35% (additional)
Directors’ loans
Unlike sole traders, whose personal and business finances are generally fluid and interchangeable, limited companies must follow a strict process when money is taken out of the business by an owner/director.
Other than through salary, expenses or dividend payments, one method of making business funds available for personal use is via a director’s loan.
A director’s loan is not considered to be a payment in the same way as salary or dividends, but accurate records must be retained, as director’s loans are subject to their own tax rules. These records are known as a ‘director’s loan account’.
What tax must be paid on directors’ loans?
At the end of each financial year, any money owed to the company as part of the director’s loan account must be included in the balance sheet as part of the annual accounts. Taxes which apply to director’s loans comprise:
- Section 455 Corporation Tax at 33.75% – if the loan is over £10,000 and is not repaid within 9 months of the end of the relevant Corporation Tax accounting period.
- Personal tax – if the director’s loan is over £10,000. Note: Additional tax may be due if interest has been paid below the official rate.
What is a benefit in kind?
If any asset belonging to the business is used by a company director for personal use, this is known as a ‘benefit in kind’ and must be declared for tax purposes. Should a director’s loan account exceed £10,000, it will automatically be classed as a benefit in kind and needs to be reported on the director’s Self Assessment tax return.
Bed and breakfasting
Although Corporation Tax is generally payable on director’s loans, this can be avoided (through tax relief) if it is repaid within 9 months of the end of the relevant Corporation Tax accounting period; however, the amount still needs to be declared.
If a director’s loan is repaid within the 9-month period but immediately taken out again, this is known as ‘bed and breakfasting’. HMRC will view this as an attempt to circumvent tax and will deny tax relief in respect of any loans over £5,000 that are repaid and then taken out again within 30 days.
Permanent Establishment question.
Hello, I’m about to take my UK ltd company off being dorment, I love in Portugal and I’ve read I can’t run it from PT as it will be looked at as PE. The company has an address in UK for returns of goods. It’s an e-commerce business. I was hoping do a self assessment return there end of year year. Do you know anything about the Permanent Establishment and the rules for PT
Thank you for your kind enquiry, Jenny.
Unfortunately we are not aware of tax rules relating to Portugal, as we are a UK-only specialist.
We recommend you seek professional advice in Portugal regarding these matters.
Kind regards,
The Rapid Formations Team
Hi there,
An early startup will incur some expenses (say £500) before having any revenue. What is the best way to fund this?
Can I just simply transfer some money from my personal bank account to the company’s bank account, then get paid back later?
Or should I loan the company then the company pay back the loan when it is able to?
Are there any potential implications if I do these?
Thank you very much for any advice!
Yuelin
Thank you for your kind enquiry.
In general terms, it is best practice to loan the money invested into the company to the company, and the company pays it back over time. This will be the most logical way of explaining this investment to outside investors at a later date, if required. Alternatively, you can ‘gift’ the money to the company, but you should bear in mind that by doing so, the money becomes company money and you will not be able to easily withdraw it.
We trust this information is of use to you.
Regards,
The Rapid Formations Team
Hi,
If I have been operating as a freelance contractor & want to convert it to a Ltd company , do I have to register straight away to use Ltd at the end of my business name? Also if I’m not registered yet as Ltd, can I still use ltd on invoices? Though does this mean other companies I’m contracting for can refuse to pay me as my company isn’t registered as a Ltd company so to them my business isn’t registered?
Thank you for your kind enquiry.
It is illegal to use LTD or Limited at the end of a company name which is not already registered as a limited company. It is also illegal to place the word Ltd or Limited on an invoice if the company is not registered as a limited company.
Some larger companies will have policies preventing them from entering into arrangements/contracts with sole traders. However, if you have already carried out work under an arrangement, they will not be allowed to refuse to pay you for that work for that reason.
We trust this information is of use to you. Have you looked at our packages relating to forming a limited company? https://www.rapidformations.co.uk/compare-packages/
Regards,
The Rapid Formations Team
Thank you for your quick reply – this is very helpful.
No problem!
Regards,
The Rapid Formations Team
I am 63. When my small business ceased trading for a year due to the pandemic, I assumed the worst and began drawing down £1,200 per month from a SIPP, paying basic rate tax of £38 per month. A small amount of business activity is again possible but receivables are likely to be irregular and from multiple sources. I am loathe to restart regular payroll payments due to the uncertainty over cash-flow but I still have an account with HMRC for this purpose. The annualised income will not exceed the primary NI threshold. Can I make a single payment to myself on the last day of the tax year (when I know how much cash will be available) and declare this as a business expense for P&L purposes? If I do this, would I have to use the emergency code for a one-off payment of, say, £8,000?
Thank you for your kind enquiry, John.
Unfortunately, due to the complexity of the nature of your question, we would recommend you consult HMRC. However, in general terms, you must ensure that you do not defraud HMRC by taking a salary without declaring it is a salary – as salary by Pay As You Earn (PAYE) is meant to be paid monthly.
In general terms, what you are suggesting to do is likely to be spotted as irregular by HMRC and it may trigger an investigation.
We are sorry we are unable to be of more help in this situation.
Regards,
The Rapid Formations Team
If I’ve accidentally just set up a ltd company can I stop the online application going through with companies House. I realised u shouldn’t have set up a ltd company and now I’m worried I’ve started something I can’t get out of. I haven’t even set up a business bank account yet or started trading.
Thank you for your query, Gemma. In general terms, it is difficult to stop a company forming once it has been submitted to Companies House.
We would recommend you contact Companies House as soon as they open at 8.30am on Monday, on 0303 1234 500, and explain the situation, to see if they can cancel the application.
I trust this information is of use to you.
Regards,
Rachel
Hi, If I want to receive PAYE below NIC threshold and take any extra earned by the company via employee salary sacrifice, how do I set this up if I don’t know what my monthly income will be? I’m just about to start trading so I can’t judge from past earnings…
Thank you for your kind enquiry.
In general terms, the only number you need to know to arrange a salary sacrifice is the amount of salary being sacrificed, and what it is being sacrificed for (e.g. company card, childcare vouchers, pension contributions etc). The income the salary sacrifice is being applied to is a secondary concern.
As you are unsure of the monthly revenue of the company, it may be wise to keep any excess profits above the National Insurance contributions threshold in the business until a later date, or pay yourself via dividends up until they become taxable, as opposed to take it all out of the company as salary.
I trust this information is of use to you.
Kind regards,
Rachel
What are my options to pay myself from Ltd company if I am the only one shareholder and director and at the same time non UK resident?
Thank you for your kind enquiry, Rita.
The options to pay yourself from a limited company if you are the sole shareholder and director are the same whether you are a resident of the UK or not. You will still be able to register to pay yourself via PAYE, even if you are not a resident in the UK. For more information regarding registering as an employee for PAYE if you are a non-UK resident, please see the UK government advice here: https://www.gov.uk/guidance/new-employee-coming-to-work-from-abroad
I trust this information is of use to you.
Kind regards,
Rachel