A company is a separate legal entity in the UK. Unlike sole traders and partnerships, the owners, also known as shareholders, cannot treat profit as their own income. As shareholders they do receive income but through other methods.
In this blog post, you will learn all about how to pay owners of small companies. By understanding how owners receive their money, one can understand how to start business in UK. So, Keep reading to learn all there is to know.
Owners of a small company receive a fixed income if they also serve as a director. The payment to the directors is through HM Revenue and Customs (HMRC) scheme known as Pay as You Earn (PAYE).
Employers have to register a company for the PAYE scheme if they have any UK based employees (which includes directors) after which the HRMC issues a number for reference. A company or its agents prepare a payroll, submit Real Time Information (RTI) report to the HMRC, and pay salaries to the directors after deducting taxes and National Insurance.
Under the PAYE scheme, directors are treated in a similar manner as employees. They have to pay National Insurance on an annual income of over £9,500. There are two methods for calculating net income of the directors.
Method 1: Standard Annual Earnings Period
The Standard Annual Earnings Period method is appropriate if the directors don’t receive a regular income. At the time of making the payment, accountants deduct the net National Insurance for the total income, including bonuses over the tax year so far.
Method 2: The Alternative Method
The Alternative method is commonly used if the directors receive a regular income. Every time directors receive a payment, accountants deduct net National Insurance due only on their income for the period.
Loans to Directors
Directors of a small company can also borrow money from the company but there are strict rules about this and the tax consequences can be severe if the loan is not repaid. A short term, which will be in addition to the salary is a fast way to pay the owner of the company, but it increases the documentation required to keep track of the loan amount.
Accounts have to record the loan amount and re-payments. The details of the loan are entered in a director’s loan account. Moreover, it is also important to keep a record of the tax paid on the loan payments and fill out CT61 form with HMRC.
Shareholders of a company receive income in the form of dividends. They typically receive dividends when approved by the directors. It is up to the directors to decide how much and when to pay dividends to the shareholders. Shareholders in small companies are also very often directors of their companies.
Directors announce payment of the dividend in a meeting. The decision contains details of the dividend payment. The directors typically announce dividends when the company has generated enough profit during a period to make the payment.
A tax voucher is generated for each shareholder. The voucher contains details about the shareholder and the dividend pay-out as well as the tax amount.
Dividend payments above £2,000 are taxed. The dividend taxation rate depends on the total income. If the income including dividend minus Personal Allowance is below £50,000, the excess dividend payment is taxed at the rate of 7.5% . The dividend taxation rate is 32.5% if the net income is above £50,000 but less than £150,000, and 38.1% if the income is over £150,000.
Let’s suppose that a shareholder who resides in England has a disposable income of £48,000 and the dividend amount is £4,000. In this scenario, the taxable income is £39,500 i.e. £48,000 minus Personal Allowance of £12,500 plus £4,000 dividend payment, and the shareholder’s income will be taxed at a basic rate as follows:
- £35,500 @20%
- £2,000 @7.5%
Now let’s suppose that a shareholder who resides in England has a disposable income of £60,000 and the dividend amount is £5,000. In this scenario, the taxable income is £52,500 i.e. £60,000 minus Personal Allowance of £12,500 plus £5,000 dividend payment, and the shareholder’s income will be taxed at a higher rate as follows:
- £47,500 @40%
- £3,000 @32.5%
If the dividend income is over £10,000, shareholders will have to fill a self-assessment tax return.
Benefits in Kind
Owners of a small company can claim benefits in kind. These benefits can affect the amount of taxation paid by the company.
An example of benefit in kind is company car. The company will have to pay National Insurance Contribution (NIC) for the car. Moreover, the owner will have to declare the car as a benefit and fill outP11D form and pay NICs as well.
Another example of benefit s in kind is fuel allowance. Owners can claim up to 10,000 annual mileage at 45p per mile and at 25p for additional miles.
Other examples of benefits in kind allowed to a company’s owner include childcare vouchers, rental income in case of home office, and R&D tax credit. All these benefits can be claimed by the owner of the small company.
Covid Support for Owners
Directors of a company can also claim Coronavirus (COVID-19) support from the government. The Covid support can be in the form of:
- Cash Grants
- Tax Relief
Coronavirus support is available irrespective of the fact that a business is open or closed. The financial support from the government is offered to compensate for the loss of income due to the corona virus pandemic.
Owners of a limited company who pay themselves a director’s salary under the PAYE scheme can claim up to 80% of the usual PAYE wage at a maximum of £2,500 per month. Moreover, owners of a small company that is affected by the coronavirus pandemic can claim a loan of up to £50,000 under the government scheme.
Wrapping It Up
Knowing how to pay owners of small companies is important if you want to start a business. Our experts will guide you through the process involved in company registration and VAT/PAYE registration, and Company House services.