Usually, the most tax-efficient method of extracting profit from your company is dividends. If you don’t have an immediate need for the income you could, in the right circumstances, use the dividend to increase its tax efficiency. What’s involved?
Income interaction
There are many ways to extract income from your company, but they all boil down to just three broad types: salary, benefits in kind and dividends. They each have their place but dividends rule the roost for tax efficiency in most circumstances.
However if, whether by design or accident, you receive both dividends and benefits you can increase tax efficiency, but the window for 2022/23 is only open until 6 July 2023.
Cancelling tax and NI on benefits
Once you have received a taxable benefit the income tax and Class 1A liability is triggered. However, the benefit rules include a let-out. They allow you to cancel both the tax and NI liabilities. This involves paying your company a sum equal to the taxable amount of the benefit. This is known as “making good”.
Trap. With one exception (zero or cheap rate employer loans) making good a benefit must be done no later than 6 July following the end of the year for which the benefit is taxable. So, as already mentioned for 2022/23, the deadline is 6 July 2023. There are also additional conditions for some types of making good, e.g. for company cars.
Making good methods
You can make good a benefit using your personal funds or alternatively your company could pay you an additional dividend which you pay straight back to the company.
Tip. As shown by the example below, making good through an extra dividend has the advantage of reducing and deferring the tax cost and eliminating the Class 1 NI liability.
Trap. Remember, dividends can only be paid out of profits. Companies with accumulated losses cannot pay dividends.
Example. In June 2022 Arthur, the sole director and shareholder of Acom Ltd, used his company credit card to pay £4,500 for his and his partner’s summer holiday. This is a benefit for tax and NI purposes and Acom would usually need to report this to HMRC on Form P11D by 6 July 2023. As a higher rate taxpayer, Arthur would be liable to tax on the benefit of £1,800 (£4,500 x 40%) payable by 31 January 2024 and Acom liable to Class 1A NI of £621 payable by 21 July 2023. But after making good with the dividend declared on or before 6 July, Arthur’s tax bill is reduced to £1,518 (£4,500 x 33.75%) and Acom’s NI bill to zero. What’s more, the tax on the dividend is payable a full year later (31 January 2025) than it would have been.
Corporation tax. The tax savings made by Arthur are countered because Acom loses the corporation tax deduction it would have received for the benefit if it hadn’t been made good. This reduces the overall tax saving but has no impact on the tax deferral.
A dividend paid by 6 July 2023 can legitimately be used to “make good” a benefit in kind. This can reduce your tax bill and save your company NI. What’s more, the tax payable will be deferred by a year, i.e. from 31 January 2024 to 31 January 2025.
This article has been reproduced by kind permission of Indicator – FL Memo Ltd. For details of their tax-saving products please visit www.indicator-flm.co.uk or call 01233 653500.