The short answer is no—there is no legal obligation for a limited company to pay its directors any salary. However, there are strategic and financial considerations to keep in mind when deciding how much, if anything, to pay a director. Here’s what you need to know.
No Legal Requirement for a Minimum Salary
Directors of a limited company are not employees in the traditional sense unless they have an employment contract with the company. As a result, there is no legal requirement to pay a minimum salary to directors. In fact, directors can choose to take no salary at all and instead draw income from dividends, provided they are also shareholders.
Why Pay a Salary to Directors?
While it’s not mandatory, there are several reasons why many limited company owners pay themselves a salary:
- Personal Allowance Utilisation:
- Paying yourself a salary up to the personal allowance (£12,570 for the 2023/24 tax year) ensures you don’t waste your tax-free income entitlement.
- National Insurance Contributions (NICs):
- Paying a salary above the NIC lower earnings limit (£6,396 for 2023/24) ensures you qualify for state benefits, such as the State Pension, without incurring additional NICs if the salary stays below the primary threshold (£12,570).
- Tax Efficiency:
- A salary is a deductible expense for Corporation Tax purposes, reducing the company’s overall tax liability.
- Compliance with PAYE Rules:
- If the company has other employees or directors earning a salary, it may be easier to include directors in the payroll for administrative simplicity.
How to Decide on a Director’s Salary
When deciding on a director’s salary, consider the following factors:
- Personal Income Needs:
- Determine how much income you need to cover your personal expenses.
- Company Profits:
- Ensure the company has sufficient profits to support any salary payments.
- Tax Efficiency:
- Combining a low salary with dividends often maximizes tax efficiency. Dividends are taxed at lower rates and are not subject to NICs.
- NIC Thresholds:
- Pay a salary that exceeds the lower earnings limit (£6,396) but stays below the NIC primary threshold (£12,570) to minimize NICs while maintaining access to state benefits.
Paying Directors Through Dividends
If the director is also a shareholder, dividends can be used as an alternative or supplement to salary. Dividends are paid from post-tax profits and are not subject to NICs, making them a tax-efficient option. However, they must be properly declared, and the company must have sufficient post-tax profits to distribute them.
Reporting Director’s Income to HMRC
- PAYE for Salaries:
- If a director is paid a salary, the company must register for PAYE and report salary payments to HM Revenue & Customs (HMRC).
- Dividend Income:
- Dividends must be declared on the director’s Self-Assessment tax return. Any dividend income above the tax-free dividend allowance (£1,000 for 2023/24) will be subject to dividend tax rates.
Final Thoughts
While a limited company is not required to pay a minimum salary to its directors, paying a small salary can be a strategic choice to maximise tax efficiency and maintain state benefits. Combining a low salary with dividends is often the best approach for director-shareholders.
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