When the Chancellor presented his Spring Statement in late March, Rishi Sunak was under pressure to scrap or postpone long-planned tax increases. The purpose of the changes was to help raise money for England’s care system in the wake of the Covid 19 pandemic, but the timing of their introduction came against the backdrop of rising inflation and an emerging cost of living crisis.
In the event, the changes were confirmed. From the start of April, all classes of National Insurance contributions increased by 1.25% (this increase will be replaced by a new Health and Social Care Levy from April 2023), and dividend tax rates also rose by the same percentage.
But in confirming these changes, the Chancellor went some way to mitigating the full impact of the increase in National Insurance, announcing that from July 2022, the threshold at which National Insurance becomes due is rising.
The adjustment will see the lower-earning limit increase by £3,000 – from £9,568 to £12,570 – bringing it into line with the threshold for income tax. These thresholds used to be the same many years ago, but successive changes have led to them becoming misaligned over time.
It’s not clear if the change will apply to Class 2 National Insurance which is exclusively paid by self-employed workers, but it will certainly affect Class 4, Class 1 and Class 1A National Insurance which is paid by employers and employees.
Employees on fixed salaries have no option other than to absorb the increase in National Insurance – with the inevitable impact on their pay packets, but owner-directors of limited companies have more flexibility about how they choose to deal with the change.
If you’re a company director – what should you do?
If you’re like most company directors, you’ll take your income through a combination of a salary – earned in the same way as any other employee, and dividend payments based on your profits and your status as a shareholder.
How much you pay yourself as an employee; and how much and how often you choose to take a dividend is always something of a balancing act. What’s best for you in terms of the most tax-efficient split between salary and dividends will depend on a range of dynamic factors, including your personal situation, how your business is performing, and of course, how your income will be affected by any tax benefits and thresholds that apply.
If you’re a company owner-director, you should constantly be monitoring these things to ensure you’re optimising your earnings and minimising your tax liabilities, but in light of the recent – and upcoming changes, it’s especially important you take time to review your position now.
What salary/dividend balance is right for you?
You can’t avoid paying income tax on your salary or tax on dividends, but how you structure your earnings can make a big difference to the money you get to keep for yourself.
As mentioned earlier, exactly what’s best for you will depend on your circumstances and family situation. These are unique to you and will need to be factored in to determine the most advantageous and tax-efficient solution for you.
It’s worth remembering that the tax-free dividend allowance – currently £2k per annum, is available to everyone, regardless of whether they pay basic rate, higher rate or even no tax at all. For this reason, it could be worth reviewing the shareholding structure of your business, and considering making your spouse, civil partner or another close family member a shareholder. You should consult your accountant for tailored, expert advice, but by diverting some dividend income, you’ll maximise the tax efficiency of your business.
Has your accountant been in touch with you about this change?
Here at Inca, we’re already in the process of communicating with all our clients who are affected by the changes to National Insurance. We’re contacting them all individually to make them aware of how their income will be impacted and advise what action they should take.
When you choose to work for yourself, making sure you keep as much of your hard-earned profit as you can is key. If your accountant hasn’t been proactive and got in touch with you to discuss what you should do, perhaps it’s time to find a more responsive and proactive provider.
If you’re the owner-director of a limited company, you should constantly be reviewing your remuneration arrangements to ensure you’re operating as efficiently as possible. Right now, you need to consider how the changes to National Insurance affect you and take appropriate action. At Inca, our experts can help ensure you stay as tax-efficient as possible, advising what’s best for you based on your circumstances.