Optimal salary for a company director - 2018 update

It’s that time of year when we need to look at the level of salary that company directors should be paying themselves from 6th April.

As in previous years, the main question is whether to pay a salary up to the Personal Allowance level or whether to pay a salary to the level at which National Insurance kicks in. We would generally recommend the second option to reduce administration. TL;DR: if the director has no other income and the Employment Allowance will be used up against other staff salaries then the best option would be for the director to be paid a salary of £8,424 (£702 per month). This should be topped up with £37,926 of dividends.

If the director is owed money by the company however they could also charge interest on their loan account so this may be an additional consideration for some. In the following it is also assumed the director wishes to stay below the higher rate tax band threshold for personal income tax. It is also assumed that they have no student loan balance, are not caught by IR35 and have a full personal allowance. It is assumed they are UK resident and have no other income, capital gains and there is no relief from tax to claim such as gift aid or pension payments.

Optimum salary for directors: changes this year

This is one of the questions we hear most often: what is the optimum salary I should take as a director?

There are many salary calculators on the web that you can use but the easiest way in the past has been to take the maximum salary that does not attract taxes nor national insurance, neither for the employee nor for the employee (see our previous article). In 2013/2014 that amount was £7,696 pa. But in 2014/2015, due to the new £2,000 Employment Allowance, there is now a new option for directors' salaries:

1. If the company is able to use all the £2,000 Employment Allowance in the year, then the best route for the Director’s salary will be to pay over the LEL but below the secondary level in 2014/15 i.e. £7,956 pa (£663 per month). The rest will have to topped up by dividends as per in the previous years.

Minimum wage increase

It's this time of the year where the minimum wage usually increases. This year is no exception.

The National Minimum Wages (NMW) rates are due to increase on 1st October 2013 to the following:

• £6.31 – the main rate for workers aged 21 and over
• £5.03 – 18-20 year old rate
• £3.72 – the 16-17 year old rate for workers above school leaving age but under 18
• £2.68 – the apprentice rate, for apprentices under 19 or 19 or over and in the first year of their apprenticeship

Last year, only the over 21s and Apprentices saw an increase in the NMW. But this year, all of the rates have increased.

What is the optimum salary for a director?

It's common practice for directors of small businesses who are also the company owners to pay themselves a small salary and then take the rest of their income as dividends from the available profit. The reason is for tax efficiency. A company starts paying corporation tax from the first pound of profit and salaries being an expense, they reduce that profit. Dividends on the other hand are distributed after corporation tax of 20% (for small businesses) has been paid. The problem with salaries on the other hand is that they can be heavily taxed on the recipient and also they generate significant Class 1 National Insurance Contributions (12% for the employee and 13.8% for the employer). Thankfully Income Tax and NIC are only charged after you earn a certain amount per year.

From 6th April 2013 the rate at which you can pay a salary to an employee without suffering Income Tax and NIC will increase from £7,488 to £7,696 per annum. This is known as the Employers’ Earnings Threshold. If you have Limited Company and pay yourself a small salary then you should consider increasing the salary up to this threshold.

What is the P35? Do I need to do one?

When you operate a payroll (you have employees), you are required to file an annual return every year. It's done by filing a Form called P35 (even though it's now done electronically). The deadline is May 19th and if you fail to do it in time you will you incur steep penalties. The penalty is £100 per month late and per 50 employees. Moreover, HMRC tends to be very slow in issuing those penalty letters which means that when you receive the first letter, it will most probably be months later and the penalty will have already accrued in the hundreds of pounds.

Important changes for Employers

From 6th April 2012 the qualifying period for employees to bring an unfair dismissal claim will be extended from 1 year to 2 years. The Government has said that it intends to increase the qualifying period for unfair dismissal to "provide more time for employers and employees to resolve difficulties, give employers greater confidence in taking on people and ease the burden on the employment tribunal process". Also, as every year, statutory thresholds are changing. Here are the important dates to be aware of:

On 1st February 2012

• Statutory redundancy payments - the maximum amount of a week's pay used to calculate a statutory redundancy payment increased to £430
• Unfair dismissal compensatory award increased from £68,400 to £72,300
• Guarantee payments payable to an employee increased from £22.20 to £23.50 per day