Is paying yourself a small salary and claiming dividends bad?

[lastonetime]

Please don't bite my head off, genuine question because I don't understand the system,

MIL and FIL are self employed as they've always said, they are directors of a ltd company. We've recently found out they pay themselves £800 a month and the dividends.
It seems like they won't get anything from the self employed 80% payments and only on their PAYE.

They are obviously worried about the future.
They had been advised to do it this way by their accountant, is it to avoid paying tax? Their argument is that they don't get holiday or sick so it balances out.

I've seen a lot of anger on here for people that do it that way. Just trying to understand why?

It's entirely common and I wouldn't call it bad.

As mentioned, employees on furlough must do no work. For directors they may carry out duties they are legally obliged to do but no more. Especially in small companies, directors should consider whether they're better off continuing to work. If literally everyone is furloughed, there's nobody to respond to something like a burglary or cyber-attack.

If it wasn't so lucrative to be self employed why have all the contractors been up in arms about the changes to IR35?

I don't understand the contractors thing tbh as it's quite different to those of us who are selling services to many people / companies concurrently.

I'm not saying that there isn't some difference in tax liability, but it's not as much as some people seem to think, for me it's probably a couple of hundred a year and my accountancy costs are over double the difference in tax between dividends and PAYE, I didn't have those as a sole trader as it's much simpler, so it's clearly not about saving me money, it's more expensive to me this way. The amount of tax my accountant then pays on the money I give him almost makes up that gap.

I am a company because 1. I work with large organisations who prefer trading with companies so it gives me a better chance of getting work in the first place; 2. I want to protect my personal assets, such as my house, if anything goes wrong; 3. I want to grow my business and I pay other people and it would be weird to just do that through my personal finances.

I put more money into the system as a result of creating work and paying other people than I would if I was just bumbling along on my own - at least double.

If it wasn't so lucrative to be self employed why have all the contractors been up in arms about the changes to IR35?

I don’t understand why people keep saying this. Contractors are concerned about IR35 because it will mean lots of their work may evaporate.

It is companies employing these people who are trying to avoid the costs of having a proper employee (NI, paid holiday, pension contributions etc). Much cheaper for them to call someone a contractor even if they’re working exclusively for them full time, than to actually employ them.

The lack of knowledge about self employment, limited companies, IR35 etc is staggering.

• people who work for themselves as a sole trader or in a partnership pay the same rate of tax as everyone else except a slight difference in national insurance (9% as opposed to 12%). This is because the do not get sick pay, paid holidays, pension contributions etc

-some self employed set up a limited company. This is because they are running a business in which they must be protected by limited liability (ie if they make a mistake they are a seperate entity to the business and whilst the business can be pursued for damages, they themselves have a limited liability). It's quite common and applies to people in all sorts of businesses. It also limits your risk in terms of paying staff or suppliers in case you go bankrupt. It's the same principle for all companies including the ones that are large and most people are employed by. Most small Companies do not pay hugely less tax. It's 19% on profits and then 7% on dividends. They will also pay tax or ni on salary but most directors take a small salary and get paid in dividends. This is completely legal and what most people's accountants advise them to do. However they have already paid 19% on profits. If they have employees they will also be paying ni for their employees too. Many small companies have to be registered as such as larger companies won't work with them unless they are not. It's not especially tax efficient to be a limited company as you balance the slightly reduced tax with paying accountants more and more onerous administration costs for losging company accounts more frequently -IR35 is a different issue completely but mainly to prevent large companies hiring contractors who should be employed by the company but are treated as freelance. In this way the large company avoids paying the costs associated with hiring someone including ni and pension contributions. Contractors are upset as they are either being suddenly discarded or forced into further umbrella companies with large associated charges. Genuine freelancers who work for a company for a few weeks at a time to cover busy periods are now losing income as companies no longer want to hire them as they have to go on payroll.

Please get your facts straight. Most self employed individuals contribute a huge amount in tax and take on great personal risk and uncertainty. It doesn't matter WHY they have chosen to work for themselves but it is commendable to start a business and generate your own income (and also the income of others). Divisive and idiotic rhetoric is not helpful when people are stressed and worried particularly when it's very ill informed.

It’s also done to mitigate liability on your own assets

This

It's not bad it's what many have to do.
If we paid ourselves a big salary there would be nothing left to run the business. but we only take a dividend if we need to for some reason, so not every year.
You still pay tax on the dividend.

"There has been a big furore recently over proposed changes to IR35 to try and recover more tax and NI from self employed people who are employees in all but name."

"If it wasn't so lucrative to be self employed why have all the contractors been up in arms about the changes to IR35?"

There are significant advantages that employees have over contractors. In addition to the sick pay, holiday pay, parental pay, NI and pension contributions that employees get (plus any other employee benefits) they also have JOB SECURITY. They would usually get one month's notice if dismissed. After two year's service they would get protection from unfair dismissal and redundancy pay. Contractors get none of this. They can lose their job pretty much overnight.

Not all contractors would choose to do it but in certain industries there are hardly an permanent jobs because the companies prefer to use contractors instead.

IR35 is effectively a massive pay cut for contractors - but they will still not get any of the benefits that employees get.

Of course the government prefers to go after people like contractors while turning a blind eye to huge corporations that don't pay tax.

There has been a big furore recently over proposed changes to IR35 to try and recover more tax and NI from self employed people who are employees in all but name

This is so far wide of the mark. IR35 is to stop companies having employees but treating them like contractors. I know several contractors like this who’ve been told explicitly that if the company are forced to hire them, their salary will be vastly less than their contractor rate to cover the costs of employing them properly. No wonder contractors are worried.

IR35 is a piece of legislation from 2000 which was brought in to "catch" individuals who would be classified as employees were it not for the presence of an intermediary (simplistically a company owned by the individual) between the individual and the end engager.

My professional experience at the time was that, in the main, IT individuals were leaving work on the Friday as employees and going back the following week through their own limited company.
They could command enhanced rates because they didn't qualify for employee benefits and the engager didn't have to pay employer NI or bear the other employer risks.
They were also massively advantaged by the tax regime at the time and being able to take dividends from their company.

IR35 didn't work - mainly because everyone ignored it and HMRC didn't pursue enough cases to make it stick. The onus was on the intermediary company to operate the IR35 tax legislation, so the end engager was happy for the situation to continue.

The changes to dividend tax have in a large part been to address this, as well as to increase the general tax take from dividends overall.

The off-payroll working rules, which are already in place for the public sector and were due to come in for the private sector from Apr 2020, now postponed to Apr 2021, move the onus to the end engager.
The end engager now has to make the decision as to whether it is in reality an employment engagement and apply tax accordingly.
The risk is now with the end engager, and they are reacting accordingly.

The issue with all of this is that since the introduction of the initial legislation more and more engagers insist that they will only contract through a limited company, so you are forced to work like this - in many cases with no real understanding of why or the legal and financial implications of doing so. In reality in many of the situations IR35 should have been applied and the individual taxed accordingly.

I posted a couple of days ago about the tax advantages an individual working through a limited company had over an employee. Including being able to deduct expenses, like travel to work and the cost of lunch and other subsistence when working at a client site (ie away from the company’s base, which is usually the individual’s home address). The answers show the lack of understanding even amongst people who work in this way. Examples:

You’re making assumptions on costs there - never had a season ticket while working full time, don’t have one now.

It doesn’t matter whether you personally had a season ticket, drove to client sites or cycled there. Compared with somebody employed, who earns the same amount as your company’s turnover and does more or less the same sort of job, and has to travel to work at her own expense, you are advantaged because you get to deduct your travel costs from taxable income (for CT) and she doesn’t (from income tax).

Don’t meet with clients so can’t claim for travel, client lunches etc.

This has nothing to do with entertaining clients. If you are required to travel to client sites away from your base (usually your home) you can claim expenses for your own subsistence from your limited company that it can deduct for CT purposes, for up to two years per site. An employed person can’t do this.

And actually many employees can absolutely claim expenses as part of their employment package

You have misunderstood. If your client, or your employer, requires you to travel somewhere other than your normal place of work then it is standard to offer expenses irrespective of whether you are employed or working through your own limited company. However, if you are an employee nobody is going to offer you tax free reimbursement to travel to your standard place of work, unless your employer is daft enough to give you a home base. If you work through a private limited company employing only you, the company can do this.

I won’t give you my views on IR35. They are very different to those of most contractors (of whom I was one until six months ago) and some of the posters on here might spontaneously combust.

(I am a chartered accountant.)

No, the point is that you’re failing to acknowledge that this is more of a benefit in some roles than others. So you throwing around things like “that £400 of CT saved right there” is just nonsense if it’s not applicable. But what a nice way of taking comments out of context.

And perhaps when I worked for employers I didn’t get my travel into work paid every day, but I did have considerable travel paid, overseas, accommodation provided, generous per diem etc and plenty of other perks. All of which I would have to pay for myself if I attended the same events as a self employed person (or the company would have to pay for as a company director).

Until a few years ago this system saved them a lot in NIC. So, to some extent, win some lose some. In more recent years the advantage has been much lower but often its still been a win.

No, the point is that you’re failing to acknowledge that this is more of a benefit in some roles than others. So you throwing around things like “that £400 of CT saved right there” is just nonsense if it’s not applicable. But what a nice way of taking comments out of context.

So we’re only allowed to discuss your specific set of circumstances? Don’t be ridiculous. There are other people on the thread, and other people working through personal trading companies, apart from you.

No, of course not. The reply that you are quoting to apparently make the point that people don’t know what they’re talking about was in response to your assertion that people who take this route are saving on things that wouldn’t be relevant for many. I responded in that context, you have deliberately taken it out of that context.