Structuring income tax efficiently for 2019/20
As a director shareholder of a company your client has more opportunities than most to organise their income tax affairs efficiently. With that in mind, and as a new tax year starts on 6 April, how should you approach it?
2319/20 - the usual advice
As a company director shareholder your client may be bored of hearing the same old tax planning advice year after year, but that doesn't mean it's not valid. What's more, changes to rate bands or financial circumstances means there's always room to improve tax-efficiency, but how should you go about it?
Where to start?
The starting point for your client is not "how much income should I take from my company?" That's the variable factor you can use to achieve tax efficiency. Start instead by estimating income that isn't under your client's control for 2019/20, for example, interest and dividends from investments, profits on rental property, etc. Once you know this you're in a better position to decide the amount and type of income to take from the company.
Example - Billy is the only director and shareholder of Acom Ltd. It makes more profit each year than Billy needs to take as income. He estimates his other income for 2019/20 to be: £5,000 taxable profit from a buy-to-let, £300 bank interest and £800 of dividends from various companies. He can now plan his profit extraction for 2019/20.
For 2019/20 the tax-free personal allowance is £12,500. Billy should use this in full, take a salary of at least £7,200 (£12,500 - (£5,000 + £300)) to use this (but see Tip 2).
Tip 1. Unless your client has earned income from somewhere other than their company, taking a salary of more than £6,136 in 2019/20 ensures that they're entitled to a full year's NI credits which count toward their state pension.
Tip 2. While £7,200 is enough for Billy's needs for state pension credit, it's more tax efficient for him to take a salary of £8,632, i.e. the maximum that can be taken without NI being payable.
Next, Billy should use all his £2,000 dividend nil-rate allowance. His dividends from investments are £800, he should therefore take at least £1,200 dividends from Acom. So far Billy's income from Acom is a very tax efficient £9,832 (£8,632 + £1,200), but even with his other income that won't meet his needs.
They way for Billy to go is more dividends rather than salary. These are the most tax efficient if, when added to his other income, they remain within the basic rate band of tax. For 2019/20 he can take dividends to bring his income up to £50,000. The tax rate on dividends to this point is just 7.5%. If Billy needs more income, dividends remain the most tax-efficient option.
Tax reliefs increase the amount of income your client can receive tax free or how much of it is payable at basic rate tax (instead of higher rate).
Tip. If finances allow, advise your client to take only as much income as needed to keep within the basic rate band, then in the final days of 2019/20 (when they'll know better how much their other income and tax reliefs are), they can take a dividend that will use any remaining basic rate band.