The most efficient way to pay yourself this financial year

Each year I publish an overview of the most tax-efficient remuneration strategy for contractors. I do this because I want you to keep as much of the money you earn as possible. I also want you to have clarity on what HMRC will demand from you when your tax return is submitted, so you can plan.

I’ve updated the comparison of last year to this year in the graphic below for quick reference.

Before we dive into the numbers, it’s important to remember that HMRC collects a considerable amount of money from UK taxpayers through fines and penalties. They also save a significant amount of money when people don’t claim all the benefits they are entitled to, mostly from fear of fines or penalties. It’s a win-win for HMRC! Please, don’t be one of the people who miss out.

With the right advice you can have confidence you’re claiming only what you’re entitled to and paying the minimum of tax you are legally required to. If you’re unsure, book a call with me. There’s no cost to you and a second opinion will put your mind at rest.

This year the danger zone for parents claiming child benefit is even more hazardous. It now overlaps the basic rate tax band – so, if you’re a parent, you a) need to be aware of this and b) consider if that is acceptable to you. I want to be clear – you don’t lose money by earning the full basic rate allowance and giving back some of your child benefit, but the £270 you earn that falls into the Parent Warning Zone will mean you pay a higher effective tax rate on that income. Personally, I don’t think this is in the spirit of the child benefit scheme and this should never have fallen into the lower tax band – but we must work with the hand we are dealt by HMRC.

Tax Efficient Remuneration For Contractors 2021 2022

The Chancellor’s numbers in 2 seconds:

  • The personal allowance is now: £12,570
  • Size of the basic tax rate band has grown to: £37,700
  • Which means that the new Higher Rate Tax bracket is now: £50,270
  • And the Dividend Tax Allowance has remained static this year at: £2,000

The most efficient way to pay yourself this financial year

From April of 2021, the most tax-efficient remuneration strategy for a contractor will be to pay themselves £4,189 per month and to save £223 per month of that amount to cover the personal tax bill that will follow in due course. Therefore, the breakdown is as follows:

Monthly salary: £797 per month

Dividends: £3,392 per month

Put aside for tax: £223 per month

*these figures are rounded to the nearest pound.

If you do this, you will use up all of your personal allowance and basic rate tax band without going into the higher rate tax bracket of £50,270 as set by the latest budget. These figures are based purely upon the earnings that you take from your business, and do not take into account any other income that you receive from areas such as benefits, interest on savings and investments or rental income.

For clarification: the £223 per month is representative of the 7.5% dividend tax and we always recommend to our clients that they save this as they go. The truth is that it was never your money in the first place – so don’t spend it. Save it wisely and you might even make a few pounds of interest at Her Majesty’s pleasure.

Get greedy and get expensive!

Here is the bad news. Obviously, if you have got a significant need to take more than £4,189 per month from your business, you might need to get a little more creative, investigate some other strategies, or just bite the tax burden bullet. If you choose the latter: these are the costs you will incur.

For every £1,000 that you pay yourself in dividends, over and above the £3,392 per month, you will be liable for £325 at the higher 32.5% rate of tax. And if you go really wild and end up topping the £100,000 per year barrier, your rate will skyrocket into unspeakable stratospheres – in fact, it is so expensive that I can’t even bring myself to mention the numbers here!

Got any questions?

Book a free call with me and in 15-minutes I’ll guide you to the best remuneration strategy for you, taking into consideration your personal situation. Book your call here.