As a contractor working through a limited company, you have the potential to earn a higher take-home pay compared to other working arrangements. However, it can be confusing to navigate the tax and national insurance requirements associated with setting up and managing a limited company. In this article, we’ll break down the basics of contractor limited company take-home pay.
First, it’s important to understand that as a director of your own limited company, you are an employee of the company. This means that you must set up a PAYE (Pay As You Earn) system and pay yourself a salary through the company. Your salary will be subject to income tax and national insurance contributions (NICs). Currently, the basic rate of income tax is 20% on earnings between £12,570 and £50,270, and the primary threshold for NICs is £9,568 per year.
In addition to your salary, you can also take money out of the company in the form of dividends. Dividends are payments made to shareholders, and as a director and shareholder of your own limited company, you can choose to take a dividend instead of a salary. Dividends are taxed at a lower rate than income tax, and you can earn up to £2,000 in dividends tax-free each year. Beyond that, dividend tax rates are 7.5%, 32.5%, and 38.1% for basic, higher, and additional rate taxpayers respectively.
It’s worth noting that dividends can only be paid out of profits that the company has already earned. This means that you must ensure that your company is profitable before taking dividends. Additionally, taking excessive dividends can lead to red flags with HMRC and potentially result in an investigation.
So, how does all of this translate to your take-home pay? Let’s look at an example. Say you set up a limited company and pay yourself a salary of £40,000 per year. You also take £10,000 in dividends. Your approximate take-home pay would be:
Salary: £40,000
Income tax: £5,750
Employee NICs: £3,249.60
Employer NICs: £4,551.20
Dividends: £10,000
Dividend tax: £1,143.75
Total take-home pay: £35,305.45
This example assumes that you are the sole shareholder and director of the company, and that you are not claiming any other tax reliefs or benefits. Your actual take-home pay will vary depending on your specific circumstances and the tax laws in place at the time.
In conclusion, setting up and managing a limited company can be a great way to increase your take-home pay as a contractor. However, it’s important to understand the tax and national insurance implications and to seek professional advice when necessary. By properly managing your company’s finances and taking advantage of tax-efficient strategies, you can maximize your earnings as a contractor.