There are many ways of extracting profits from your company, all with different pros and cons from a tax perspective.

To help you work out your options, we’ve come up with 5 tax-efficient methods of profit extraction.

Bonuses and salaries

Although salaries and directors’ bonuses are liable for income tax and national insurance contributions (NICs), they are treated as business expenses and do not attract corporation tax.

For maximum tax efficiency, only take a minimum salary. Employer NICs of 13.8% kick in once the annual salary exceeds £7,696, while you must earn more than £5,668 to qualify for a state pension. Taking a salary between these figures is advised.

Taking profits via salary ensures you take advantage of your personal allowance, but you  should bear in mind the effects of marginal rate tax brackets if you decide to take more.

Dividends

Taking income in dividends is more tax-efficient than taking a director’s fee because they are not charged national insurance and they are tax free if they fall inside the basic 20% rate of tax.

There are, however, several possible drawbacks to taking all your income in dividends:

·         you will forego your personal allowance

·         dividends aren’t deducted from profits and so attract corporation tax

·         you won’t be entitled to access your state pension and other state benefits

·         unlike salaries, dividends don’t increase the contributions you can make into a personal pension

·         dividends can only be offered at fixed rates while salaries can be paid at different rates.

Pensions

Making contributions into pension scheme will reduce the amount of taxable profits on your balance sheet. No income tax or NICs are paid as pension contributions are not treated as a benefit.

However, contributions are restricted to annual pension contribution allowance (£40,000 in the 2014/15 tax year). You can also use any allowance you didn’t use from the last 3 tax years to extend the maximum contribution amount.

You, of course, will also not have access to the funds until you’re at least 55 years-old.

Reinvestment

Another option is to reinvest your profits to escape the potential tax charges associated with other methods of profit extraction. Think about the available corporation tax reliefs for investing in R&D or in plant equipment and machinery. Leaving profits on your balance sheet will come at additional corporation tax charges however.

It can also be dangerous to leave profits inside the company for too long. Company shareholders will inevitably want to sell or give away their holdings and claim capital gains tax entrepreneurs’ relief on the disposal.

Benefits in kind

Remember that certain types of benefits in kind have special tax rules that you can take advantage of. If the benefit lowers a high tax charge or only has a low tax charge, it can be a tax-efficient way of extracting profit. Examples of these types of benefits include company cars or taking out a loan from the company.

Talk to the experts

Our business advisers are experts in limiting the tax liability of businesses. Contact us on 01753 892 815 or email info@hmiller.co.uk to discuss profit extraction strategies.