As a director of an owner-managed business, you have the flexibility to decide how to pay yourself, either through a salary, dividends, or a combination of both. Howeverit’s important to choose the most tax-efficient method, which for most directors in 2023/24 is to pay themselves the optimum director’s salary of £12,570 per annum. This amount ensures that you qualify for the state pension without paying employee contributions, which is equivalent to saving hundreds of pounds in taxes.
The reason for this is because of the National Insurance (NI) rates, which have different thresholds.
The lower earnings limit for NI in 2023/24 is £6,396 per annum, which counts as a qualifying year for your future state pension.
The primary earnings limit for NI in 2023/24 is £12,570 per annum, and any annual salary above this amount requires the employee to pay NI contributions.
Meanwhile, the secondary earnings limit for NI in 2023/24 is £9,100 per annum, and any salary exceeding this amount will require the employer (your business) to pay NI contributions.
It’s also worth noting that the personal allowance and the primary NI threshold are now aligned at £12,570. So, if the director has tax allowances available, it’s advisable to pay the optimum director’s salary. In some situations, paying a £nil salary may be advisable, such as when the director has other sources of income, is at pension age, or has already accumulated enough qualifying years.
Paying higher salaries is not advisable, as income tax rates and NI rates combined are higher than the dividend tax rate. When there is a contract of service, directors must legally be paid the national minimum hourly wage, which would typically be higher than the optimum director’s salary of £12,570 per annum. If the company has made losses in the past, dividends may not be payable, and higher salaries may be the only option.
To avoid paying employers NI, some businesses may reduce the salary to the secondary earnings limit of £9,100 per annum. However, this will result in higher taxable profits. Furthermore, if the company is eligible to claim the employment allowance, it can reduce the employers’ NI liability by up to £5,000 per annum, which increases the tax savings of paying the optimum director’s salary.
Regrettably, not all businesses are eligible for the employment allowance. A business must have more than one employee or director to be eligible to claim it. If an employer is eligible to claim the employment allowance, the employer’s National Insurance contribution of £478 would be reduced to zero.
This, in turn, would increase the tax savings of paying an optimal director’s salary of £12,570. Compared to a salary of £9,100, the tax savings range from £659 to £919 (calculated as 19% or 26.5% of £3,470).
In conclusion, paying the optimum director’s salary of £12,570 per annum is the most tax-efficient method for most directors of owner-managed businesses in 2023/24, as it qualifies for state pension without paying employee contributions, even with the employers’ NI liability. However, seeking specialist tax advice is still recommended, as getting the figures wrong may cost you thousands in extra taxes.
It is recommended to consult with a professional tax advisor or accountant to ensure that your tax strategy complies with the latest regulations as tax laws and rates can be subject to change.
We trust that this extensive guide has given you valuable insights into directors’ salaries for the upcoming tax year. At CDC Accounting, we are dedicated to supporting you in managing these critical aspects, which can assist your business in thriving while adhering to tax regulations.