Optimum Director Salary and Dividends 2022/23 – Limited Company Directors

When you are trading through your own limited company one of the key tax planning items for you to consider is how much salary and dividends to pay.

The advice in this article is aimed towards limited company contractors, freelancers and micro businesses with one or two directors / shareholders.

To start with we’ll go back to basics to understand the differences between a shareholder and a director.

The shareholders of a company own a company through their holding of shares and they appoint directors to run the company on their behalf.

In a micro business, the shareholders and directors will often be the same person / people, but it’s important to understand the difference between the two roles.

When it comes to salary and dividends, a salary may be paid to directors for performing their duties as an officer of the company, and a dividend may be paid to shareholders for their share of post-tax distributed profits.

This article covers the most tax efficient structure of salary and dividends for the 2022/23 tax year (6th April 2022 to 5th April 2023) – if you would like to read our equivalent article for the 2023/24 tax year click here.

As always, we would advise that you discuss your specific circumstances with a professional before taking any action.

Anything we outline in this article is just general in nature, it is up to you as the director / shareholder to decide how much salary and/or dividends you want to pay.

Here are some key assumptions we have made in this article:

• You are a UK resident tax payer with a standard personal allowance
• Your only source of income is your salary and dividends from your limited company
• There are other potential tax affecting issues that we have not covered in this article, including (but not limited to) student loan repayments, child benefit high income tax charge and the withdrawal of the personal allowance once your income exceeds £100,000
• You are not working inside of IR35

 

 

This guidance has been updated on 24 March 2022 due to the changes to national insurance that were announced in the Spring Statement on 23 March 2022. If anything further changes we will update the guidance accordingly.

 

How are salary and dividends taxed in 2022/23

For 2022/23 the personal allowance remains the same as the previous year at £12,570 – this means your first £12,570 of income is tax free.

Also the higher tax band has remained the same at £50,270.

For income above this, the tax rates are as below (these do not apply to dividends which we discuss further down):

• £12,570 to £50,270         20%  
  
• £50,270 to £150,000      40%  
  
• £150,001 +                            45%

Scottish resident tax payers have slightly different tax bands for 2022/23, here:

• £12,570 to £14,732         19%
• £14,732 to £25,688         20%
• £25,688 to £43,662         21%
• £43,662 to £150,000      41%
• £150,000 +                            46%

There are further thresholds and tax issues to be aware of but we’ll keep it simple for this article.

 

When it comes to dividend tax rates there are not separate tax rates and bands for Scottish tax payers – the dividends tax rates for 2022/23 for all UK tax payers are as follows:

The dividend allowance remains at £2,000 – this means the first £2,000 of your dividends are tax free.

Over and above this £2,000, the dividend income is taxed as follows:

• If you have any un-used personal allowance (£12,570), that element is tax free
• Any dividends in the basic tax band (up to £50,270) attract a tax charge of 8.75%
• Dividends above the basic tax band (over £50,270) are charged at 33.75%
• Any dividends in the upper tax band (£150,000+) are taxed at 39.35%.

All of these dividend tax rates have increase by 1.25% from the prior year rates. 

As an example, if your only income was dividend income, you could receive £14,570 of tax free dividend income in 22/23.

This is due to both your £12,570 personal allowance and also the £2,000 dividend allowance.

 

Most tax efficient dividend and salary structure for 22/23

For limited company contractors, freelancers and small business owners, taking a low salary with the balance of income being extracted as dividends is a common tax planning strategy.

The rationale for this is as follows:

• Withdraw a low tax efficient salary, no higher than the personal allowance so that it does not attract personal tax
• Ensure the salary is high enough for national insurance purposes i.e. that it counts as a years ‘stamp’ for your national insurance history to help protect your future entitlement to state pension and other benefits
• The salary is a tax allowable cost for your business therefore corporation tax is saved at 19% (corporation tax rate for 2022/23) on the gross salary
• Any additional amounts you withdraw from your company would be treated as dividends which do not attract national insurance, therefore you are not paying any unnecessary national insurance
• Please note that dividends are not a tax allowable expense for your company (unlike a salary), so your company does not save corporation tax on the dividends

Many people choose to limit their total income to the basic tax band so as not to go into the higher tax band (£50,270 for 22/23), to ensure that their income is not taxed at the higher levels of tax, but this will be a personal choice and a balance will need to be made between tax efficiency and how much of the available profits in your business you want to extract.

Next we discuss some potential levels of salary and dividends for 22/23 to consider.

 

What is the optimum level of salary and dividends for 2022/23?

The employment allowance for 2022/23 enables employers to not pay the first £5,000 of employer’s national insurance, this has increased from £4,000 in 2021/22.

Typically, the employment allowance means that it is more tax efficient to take a gross salary all the way to the tax free personal allowance level (£12,570 for 22/23), however HMRC over the years have brought in more and more restrictions as to who is entitled to claim the employment allowance – one of which was where they said the employment allowance would not be available to companies where the only person on the payroll is a director, i.e. ‘single director employee’ limited companies.

It seems that HMRC’s intention is to block companies that have no ‘real’ employees from claiming the employment allowance (the government are trying to encourage small businesses to take on employees) – this is clear from the fact that the government have introduced even further restrictions on being able to claim the employment allowance from April 2020.

For single director companies or if you are not certain that you can claim the employment allowance then our preference is to keep things straightforward and lean on the cautious side, so for typical freelancers and contractors we would advise to consider the simpler option – this is the option that we highlight in this article and it means that you don’t need to worry about whether you are correctly claiming the employment allowance or not.

However we have also highlighted the other option at the end of the article.

We have made some key assumptions when preparing these calculations:

• You are a UK resident
• You have no student loan balance
• Your only income is your salary and dividends from your company
• You are not working inside of IR35 – please do read our guidance about the IR35 changes from April 2021.
• You have a standard personal allowance
• Your company has sufficient post tax retained profits to support these dividends

 

Optimum Directors Salary 2022/23

When it comes to tax efficient salary levels for 22/23 there are three national insurance thresholds you need to be aware of:

• Lower Earnings Limit – as long as you pay a salary above this you are protecting your entitlement to future state pension and benefits, without paying any national insurance. For 22/23 this is £533 per month, £6,396 for the year

• Primary Threshold – if you earn above this you personally have to start paying national insurance – for 22/23 this is £823 per month for April to June 2022 and then increases to £1,047 per month for July 2022 to March 2023.

• Secondary Threshold – if you earn above this your business has to start paying national insurance – for 22/23 this is £758 per month, £9,100 for the year

 

You will note from the above that the Secondary Threshold is lower than the Primary Threshold – this means that the optimum level for single director companies is to go up to the Secondary Threshold but not any higher.

Therefore, we suggest you may want to consider a monthly gross salary of £758 which stays just below this threshold and means no national insurance deductions.

With regards to dividends, assuming you wish to take dividends up to the higher tax band but no further, then this would leave you with £41,174 of dividend headroom (£50,270 higher tax band – £9,096 salary).

The personal tax on dividends of £41,174 would total £3,124 – this is calculated as below:

• £3,474 of the dividends are in the tax free personal allowance (£12,570 less £9,096 salary)
• £2,000 of the dividends are in the tax free dividend allowance
• This then leaves the balance of dividends totaling £35,700 to be taxed at 8.75% = £3,124

 

Below we have presented these figures in both monthly and annual columns:

 

 

Optimum Directors Salary 2022/23 – alternative option if you can claim the employment allowance

In the Spring Statement on 23 March 2022 the Chancellor announced that the Primary Threshold (above which employees pay national insurance) would increase from the planned £823 per month to £1,047 per month, but that this increase would only come into effect from July 2022, part way through the tax year.

The Secondary Threshold (above which employers pay national insurance) has not changed and remains at the planned level of £758 per month.

If you are certain that you can claim the employment allowance then you may want to consider this alternative salary / dividend planning, but it does mean different salary levels for the first three months of the year compared to the rest of the year, we have highlighted this option below:

 

 

You can see that this results in exactly the same personal cash in pocket as the simpler option highlighted earlier in our article.

However this option will result in more corporation tax saved because of the higher gross salary – this will total approx £530 for the year for one director.

 

Please note that in order to pay the levels of salary discussed in this article, a payroll scheme must be in place with HMRC and the salary should be reported to HMRC through the payroll system on a monthly basis (known as RTI returns) – if you have an accountant they are likely to be handling this for you, but you should check this if you are not sure.

Finally, please bear in mind that although the tax planning strategy of paying yourself a small salary and then extracting further money from your company as dividends is currently considered relatively low risk, this does not mean that it is risk free from a HMRC challenge.

This article is just general in nature, you will need to make your own decision about how much salary and/or dividend you wish to pay.

We hope you have found this article about optimum salary and dividend levels for the 2022/23 tax year useful.

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