Peter Rayney examines owner-manager cash extraction following the September 2022 ‘mini-budget’.
On a sunny autumn morning, Robert was reviewing his company’s October 2022 management accounts. Robert was the sole director and 100% shareholder of Downton Hotels Ltd, which operated two hotels in North Yorkshire. After a few tough years of Covid, the business was back in good health. It was on track to return a healthy pre-tax profit of around £850,000 for the year ended 31 December 2022. Robert had been planning to pay himself a substantial bonus in 2022.
However, following the tax and National Insurance contributions (NICs) changes announced in the September 2022 ‘mini-budget’, he was now a little perplexed and did not know whether it was best to pay himself a dividend or a bonus. As always in times like these, he decided to ring his trusted accountant, Ms Violet Crawley (aka Letty):
“Hi, Letty. As I told you last week, we are having a terrific year and I want to take a sizable payment out of the company. Before Covid, we always took ‘my money’ out as a dividend. But with all these tax and NICs changes, I really don’t know whether it’s still the right thing to do. I find it all very confusing. What would you recommend?”
Letty replied, “Don’t get me started, Robert; it’s even been quite challenging for us, what with all the chopping and changing in tax rates and NICs. I thought we had it all sorted and then there was that U-turn on the 45% tax rate – the tax software developers must be having a real nightmare! The best thing here, Robert, is for me to run some numbers on a spreadsheet for you and see what this tells us.”
“That’s a great idea,” answered Robert. “As you know, the company still has quite a bit of cash in the bank – about £550,000, which we have built up over the years. I think I could safely take out, say, £200,000 which would still leave a respectable buffer and support our trading cash flows. How much would the tax be on that? If you could let me know whether to take this out as a bonus or dividend, that would be lovely, Letty. By the way, just to let you know, I have already taken my monthly salary of £15,000 up to the end of September.”
Bonus vs dividend calculations
Letty promised to let Robert have some figures so he could make a decision. She prepared a spreadsheet that showed the relevant tax and NICs costs of paying £200,000 either as a bonus or a dividend. The spreadsheet tax calculations assumed that Robert already had a £180,000 salary for 2022/23 but no other income.
Letty emailed the following spreadsheet over to Robert the next morning, which contained the following workings:
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Robert Downton – tentative bonus v dividend calculation – 2022/23 |
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£ |
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Amount earmarked for bonus/dividend |
200,000 |
200,000 |
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Employer’s Class 1 NICs (see Note 1) |
(25,373) |
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Gross bonus/cash dividend |
174,627 |
200,000 |
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Less: Corporation tax @ 19% (see Note 2) |
- |
(38,000) |
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174,627 |
162,000 |
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PAYE/NICs on bonus of £174,627 |
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PAYE - £174,627 x 45% |
(78,582) |
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Employees’ NICs - £174,627 x 2.73% (see Note 3) |
(4,767) |
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Dividend tax |
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Temporary additional top rate of £160,000 x 39.35% (see Note 4) |
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(62,960) |
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Net cash available for Robert |
91,278 |
99,040 |
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Notes |
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1. |
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The employer’s NICs cost must be met from the allocated £200,000. Since Robert is a director, his employer’s NICs is calculated on an annual basis. Due to the changes in NICs rates in 2022/23, the blended Employer’s NICs rate for that year is 14.53%. Employer’s NICs is therefore £25,373 (£200,000 x 14.53%/114.53%). Assume annual secondary threshold of £9,100 already applied against Robert’s annual salary. |
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2. |
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Since a dividend is paid out of post-tax profits, the amount allocated for the dividend is reduced by the current corporation tax rate of 19%. |
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Additional employees’ NICs for directors (above the annual upper earnings limit of £50,270) is at the blended rate of 2.73%. |
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3. |
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4. |
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All dividend tax rates were increased by 1.25% for 2022/23 and thus, the top dividend tax rate for the year is 39.35%. |
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Follow-up Zoom call
After receiving Letty’s email and spreadsheet, Robert arranged a Zoom call with Letty. “Thank you for your spreadsheet, Letty. Based on your figures, it looks like it is marginally better to pay me a dividend – is that right?”
Letty reacted: “Yes, as you can see from my spreadsheet, there is a useful cash benefit of taking the dividend. Furthermore, a dividend also offers a cash flow advantage. If you took a bonus, it would be subject to an immediate deduction for PAYE and NICs. On the other hand, since you have not taken any bonuses and dividends these past few years, your dividend tax is not payable until 31 January 2024. And what is more, you should be able to get a decent interest return on these funds until then. All these factors point in favour of a dividend.
If the corporation tax rate increases to 25% next April as originally planned next year, the overall tax liability of paying a dividend would be higher next year.
Robert thanked Letty for all her help. She had made him see everything more clearly, and he reflected on how fortunate he was to have such a ‘savvy’ accountant and tax adviser in these unprecedented times!
Practical tip
You must always ensure that the company has sufficient distributable profits to ‘frank’ the proposed dividend payment; otherwise, it will be unlawful and HMRC is likely to require the company to pay a ‘loan to participator’ tax charge (i.e., 33.75% for the year to 31 March 2023).
