What’s your magic number?
Last year it was £671 or £916, but what are the magic numbers going to be this year?
If you have a limited company you might recognise your director’s salary figure from last year.
Now that Spring is in the air and the daffodils are blooming, it must be time for the new tax year. What should you take for 2017-18 and why take a director’s salary at all?
Let’s find out!
Let’s start at the beginning. Why take a director’s salary at all? There a a couple of good reasons to take some of your income as salary from your limited company if you don’t have any other employment.
Reason 1. From a company perspective – wages and salaries are expenses that reduce the taxable profit of the company so save on Corporation tax.
Reason 2. From a personal tax perspective – you want to make best use of your personal allowance. This is the amount that you can earn before you have to pay income tax.
But why are there two magic number figures?
It all there’s a difference between the level that you start to pay income tax and the level that you start to pay National Insurance.
This year (2017-18) the personal allowance is £11,500, which means you can have £11,500 of income without paying any income tax. This gives £958 per month, the first magic number for 2017-18.
But, there is a catch. You might not pay income tax but there will still be National Insurance to pay.
The National Insurance threshold is significantly lower than the personal allowance figure, £8,164 for Class 1 NIC compared to the £11,500 personal allowance, a difference of over £3,000.
If you are employed you pay Class 1 National Insurance at 12%, when your income is above £157 per week or £8,164 per year. In addition, there may also be the requirement for the company to pay the Employer’s Contribution at 13.8%.
This difference means that if you took your full personal allowance there would be a Class 1 National Insurance bill across the year of £400 Employees NIC and potentially £460 in Employers NIC; £860 in total.
But there is some good news.
If you have a salary that falls between £113 per week and £157 (for 2017-18) then you will get your National Insurance credits towards your pension and other benefits, but the salary won’t be high enough for any National Insurance payments to be due.
This is the option many directors choose and making the most of this limit for 2017-18 gives a monthly salary of £680. The second magic number.
It all comes down to a decision on whether to take the full tax-free personal allowance amount or just go up to the National Insurance threshold.
So, why would anyone bother claiming the full £11,500?
If you have other employees, then you can claim the Employment Allowance which means that you don’t pay the first £3,000 of the Employer’s National Insurance contributions. This bring the National Insurance to just the 12% for the Employee contributions.
Corporation tax is paid at 20% so although you are paying 12% National Insurance you are saving 20% Corporation tax at the same time, a saving overall of 8%.
Let’s do some examples:
All of these are based on a company director who has no income other than the company salary and dividends.
If you do have other employment, property income or significant investment income then you should definitely speak to your accountant about your particular situation.
Example 1 – National Insurance threshold
If you just took a salary of £680 per month, the NIC threshold magic number, you would pay no income tax and no National Insurance on that amount. You would save 20% Corporation tax on your salary expense giving a £1,632 tax saving overall.
Example 2 – Personal Allowance threshold with other employees on payroll
If you have other employees and took a salary of £958 per month, the personal allowance magic number, you would pay no tax but there would be Employee National Insurance to pay of £400. There would be no Employers National Insurance because you could claim the Employment Allowance. Your yearly salary expense would save £2,300 in Corporation tax. However, this is offset by the £400 due in National Insurance, giving an overall tax saving of £1,900. This is higher than in example 1.
Example 3 – Personal Allowance threshold – no other employees
If you don’t have any other employees and took a salary of £958 per month, you would pay not tax but would again have to pay the £400 Employee National Insurance contribution. In addition there would be £460 in Employers National Insurance contributions but you would not be eligible for the Employment Allowance. The combination of salary and Employer’s NIC expenses would save £2,392 in Corporation tax but this would be offset by the £860 paid out for NIC giving an overall saving of £1,532. This is the lowest saving of the three examples.
So what does this mean for you?
If you don’t have any other employees, you are best off sticking at £680 per month. At this level you don’t have to make any monthly PAYE payments to HMRC so there is also less administration.
If you do have other employees then in terms of tax you are better off claiming the full personal allowance at £958 per month, particularly if you are having to make a monthly PAYE payment to HMRC anyway.
Of course this is just the basic salary situation and doesn’t take into account other income or recent changes to tax on interest and dividends.
Everyone is different, so it’s always worth a tax-planning conversation with your accountant at this time of year, to confirm your particular situation and help you make the most of the options that are available to you.
So what have you decided? What will your magic number be?