NI AND OTHER RATES AND THRESHOLDS

In this section, we summarise the important rates and thresholdS. 

Class 1 

Thankfully, there was no in-year change in NI rates for employees. From April 2024, the main rate of primary Class 1 NI was reduced to 8%. 

It’s possible for a director to elect for an alternative method where the NI is worked out based only on the pay received in a particular period, i.e. similar to the method for regular employees. At the end of the year an adjustment is made to reconcile any over or underpayments (see Chapter 2). The effect of this is to align the contributions with those that would be payable if the standard method of NI was used, and potentially correct over or underpayments. 

For employers, the rate for secondary Class 1 remains at 13.8%, but this will increase to 15% from 6 April 2025. Further, the secondary earning threshold, i.e. the amount an employer can pay a director per year is reduced to £5,000 from the same date.  

Class 2 and 4 

For self-employed individuals, there are two classes of NI that apply. Class 2 is a fixed weekly amount of £3.45 for 2024/25. However, it no longer needs to be paid on a compulsory basis. Instead, if your profits exceed the lower profits limit, £6,725 for 2024/25 and 2025/26, it will be treated as paid for the purpose of state benefit entitlement. If profits are below this, you will need to pay on a voluntary basis in order to accumulate entitlement for the year. 

Class 4 is a profits-based charge. It will only apply if your self-employed profits exceed £12,570 in 2024/25 or 2025/26. Class 4 NI does not confer any state benefit entitlements and is essentially a tax in all but name. 

The employment allowance (EA) 

The EA for 2022/23 to 2024/25 is £5,000. For 2025/26 and later years it is £10,500. The EA reduces employers’ NI by the lesser of the EA and the amount of employers’ NI payable. However, the following employers are excluded: 

• single director-shareholder companies cannot benefit from the allowance unless there is at least one other employee who is paid above the level of the primary threshold (PT) for at least one pay period in the tax year 

• a business is also prohibited from using the EA if the employers’ NI liability for the previous tax year exceeded £100,000. 

The 2024 Autumn Budget announced that the later restriction will be scrapped from 6 April 2025. This is worth keeping in mind, especially as the EA is increasing to £10,500 at the same time. 

Dividends 

The dividend rates from 2023/24 have been retained. The dividend allowance (really a 0% rate) has been reduced to just £500 from April 2024. The rates are as follows for 2024/25: 

• taxable within the dividend allowance - 0% 

• taxable within the basic rate - 8.75% 

• taxable within the higher rate - 33.75% 

• taxable at the additional rate - 39.35% 

Dividends within the dividend allowance use up the tax band they fall into. 

Other recent changes affecting profit extraction 

Since April 2023, the main rate of corporation tax (CT) increased from 19% to 25%, with a return to marginal relief. Affected companies will have less after-tax profit available for distribution.  

DIRECTORS' ALTERNATIVE BASIS

In this section we look at the way that directors are subject to NI, including an alternative basis that can be advantageous in certain situations. 

Alternative basis v standard basis 

Unlike general employees, directors are able to exercise some control as to how much they get paid and when. This could allow them and their companies to unfairly reduce NI contributions. To prevent this, special rules apply so that their Class 1 NI liability is calculated according to their earnings for the tax year as a whole (the annual earnings period) instead of one linked to their pay interval. 

The rules mean that the director pays no NI until the annual earnings threshold (£12,570) is reached. They then pay NI on all earnings at the main percentage rate (8% for 2024/25) until the annual upper earnings threshold (£50,270) is reached, subsequently paying NI at 2% on all earnings above that. To work out the contributions due in respect of each payment, it is simply a case of working out the NI liability using the annual limits on all earnings in the year to date and deducting any NI paid to date. 

The effect of this is that the director enjoys a low NI burden at the start of the year until their earnings to date reach the earnings threshold. The bulk of the NI liability is then paid until earnings reach the upper earnings limit. Once that is reached, things get slightly easier in that contributions are only payable at a rate of 2% on all subsequent earnings. 

However, HMRC allows directors to adopt an alternative method, by which NI contributions are calculated for most of the year as for other employees, i.e. using normal monthly or weekly earnings periods and on a non-cumulative basis. The position is reviewed at the end of the year and once the final payment is made the annual liability is calculated. The contributions due on the final payment are found by calculating the annual liability less the total of any contributions paid in the year. The director still has an annual earnings period - they are simply making payments on account of that liability throughout the year. 

Benefits of alternative basis 

The alternative basis is useful for directors who draw regular payments as salary or bonuses, as it helps to spread the NI burden throughout the year. In most cases, it won’t be helpful to directors who vote their salary at the end of the year and don’t exceed the payment threshold in any case. However, if you are having to take most of your remuneration as regular salary payments, perhaps due to cumulative losses meaning dividends cannot be taken, there may be some benefit to using it. 

Opting to use the alternative basis 

There is no need to make a formal election. Instead, you opt for the alternative basis on your payroll software by entering “AL” rather than “AN” in the field titled “director’s NIC calculation method” when completing the full payment submission for PAYE. 

SALARY AND DIVIDENDS

For now, we are only considering extracting profits as salary and/or dividends. Note that when we talk about withdrawing profits from the company, it is easy to assume this will be in cash. This is not necessarily the case. The year-end profits could be represented by cash at the bank, but it is not necessary to pay out cash to withdraw profits. Salary or dividends can also be paid by crediting them to the director’s loan account (DLA). Salary must be credited net of any PAYE tax and NI applicable but, of course, dividends can be credited without any deductions. 

Note. For the sake of simplicity, we have assumed that in all our examples the individual is only entitled to the tax-free personal allowance, i.e. no entitlement to other reliefs or allowances. This may not be the case in practice and our examples can be adjusted if necessary to account for tax reliefs or allowances you are entitled to. 

Optimal profit extraction 

It’s important to understand that there is no one right answer. The optimal amount of profit extracted for tax efficiency depends on your circumstances. For example, there is no merit in taking a salary if you have other income exceeding your personal allowance. The amount of tax-efficient income you can extract from your company may also be affected where the EA is available, e.g. where spouses or civil partners are both paid from a company. Additionally, it’s an easy trap to work on the basis that all available profits have to be taken out of the company each year. Whilst this may be the initial mindset of the director shareholders, it may not be necessary and significant savings can sometimes be made by restricting income from your company. 

In many cases, when asking, “what is the optimum profit extraction strategy?” the real question is how much salary can I take to maximise tax and NI efficiency? This is particularly true if you are looking to extract all the profits with a combination of salary and dividends. If that is your goal the strategy depends on whether you have income outside of that from your company, and, as already mentioned, if the EA is available. 

Single person company and no other income 

Example 1 - allowance not available 

In this situation, the EA isn’t available. This means that any salary above £9,100 will attract employers’ NI at 13.8%. However, because the salary is deductible for CT purposes there is a saving at the applicable CT rate (between 19% and, accounting for marginal relief, 26.5%). In previous years, the benefit of this has usually been overshadowed by employees’ NI, the optimum position for a director with no other income, and that has no entitlement to reliefs or allowances other than the personal allowance, has usually been to restrict the salary to the level of the ST. However, as the PT and ST are now so far apart, we need to reconsider.  

Let’s look at a simple example of a company with profits of £60,000 where the single director shareholder wants to extract all the profits and is looking to optimise the salary level. There are two obvious options, i.e. a salary equal to: 

• the ST, £9,100 

• the annual directors’ NI PT (also the tax-free personal allowance), £12,570 

If all profits are to be extracted, the total tax and NI in each situation will be as follows: 

Profit	£60,000	£60,000
Salary	(£9,100)	(£12,570)
Employees’ NI	£0	£0
Employers’ NI	£0	(£479)
Dividend	(£41,161)	(£38,030)
Corporation tax	£9,739	£8,921
Director’s gross income	£50,261	£50,600
Income tax	(£3,254)	(£3,366)
Director’s net income	£47,007	£47,234
Total tax/NI	£12,993	£12,766

 

So, for a single person company where the EA isn’t available, and the personal allowance is available in full, the optimum position will be a salary of £12,570 plus the remaining company profit as dividends. This increases the director’s net income by a modest £227 compared with a salary of £9,100 plus dividends.  

Employment allowance is available 

Example 2 - allowance available 

Let’s suppose the same company has another employee who is paid above the PT during the tax year. The EA will now offset the employers’ NI and the results will be as follows: 

Profit	£60,000	£60,000
Salary	(£9,100)	(£12,570)
Employees’ NI	£0	£0
Employers’ NI	£0	£0
CT payable	(£9,739)	(£9,012)
Dividend	(£41,161)	(£38,418)
Director’s gross income	£50,261	£50,988
Income tax	(£3,254)	(£3,453)
Director’s net income	£47,007	£47,465
Total tax/NI	£12,993	£12,465

 

So, where the EA is available there is a greater tax saving by choosing a salary equal to the personal allowance. This increases the director’s net income by a modest £458 compared with a salary of £9,100 plus dividends.  

Director has other income and only entitled to personal allowance 

Other income received by a director shareholder outside of their company can affect profit extraction strategy.  

Example 3 - personal allowance only 

Let’s assume the director shareholder from Example 2 has £5,000 of rental profits from personally owned property in addition to their salary and dividends from their company. How might this affect the profit extraction strategy? 

 

Salary	£12,570
Rental profits	£5,000
Dividends	£38,030
Director’s gross income	£55,600
Income tax	(£5,616)
Director’s net income	£49,984

 

Now assume that the director limits their salary to ensure that it and the rental profits are covered by the tax-free personal allowance.  

 

Salary	£7,570
Rental profits	£5,000
Dividends	£42,286
Director’s gross income	£54,856
Income tax	(£4,803)
Director’s net income	£50,053

 

Reducing salary and correspondingly increasing dividends results in £69 more net income. This illustrates why director shareholders need to take other income into account when planning profit extraction.  

All income 

Not all other sources of income will affect the profit extraction strategy. For example, capital gains are not subject to income tax and so will have no direct effect on income planning. However, the amount of income can affect the rate of tax applicable to capital gains you make. If your income plus gains exceed the basic rate band income tax threshold, the gains in excess of it are charged at a higher rate of capital gains tax (CGT). The normal rate of CGT for gains that (when added to income) fall within the basic rate band is 18% whereas the rate is 24% for gains that are in excess of the basic rate band.  

Note that rental income that qualifies for rent-a-room relief, i.e. from letting any part of your main home, e.g. to a lodger, is exempt if the income falls below the rent-a-room limit of £7,500 per year (or £3,750 if you own the property jointly with one or more other people).  

A tax rate of 0% can apply on up to £6,000 of interest from savings where you qualify for the starting rate for savings income (£5,000 maximum) and the savings allowance (usually referred to as the personal savings allowance, PSA) (£1,000 maximum).   

You’re not eligible for the starting rate for savings if your other income is £17,570 or more. If your other income is less than £17,570, you are entitled to the starting rate for savings at a maximum of £5,000. Every £1 of other income above your tax- free personal allowance reduces the amount of starting rate pound for pound. For example, if your income exceeds £17,570 by £800, the starting rate for savings applies to £4,200 (£5,000 – £800) of your savings income. The savings rate cannot apply to earned or other non-savings income, e.g. rental income. 

The PSA applies to everyone unless they have income liable to the additional rate of tax. You get the full £1,000 allowance if you are liable to income tax at the basic rate only or £500 if you pay tax at the higher rate.  

There is more on using these 0% tax breaks below.

Keep in mind that exempt income will not affect your profit extraction strategy. Exempt income includes: 

• dividends from venture capital trust investments 

• interest and dividends from ISAs where the investment limits have been adhered to 

• exempt lump sum payments from pension funds. 

Profits much higher 

Above a certain level of income the personal allowance of £12,570 is abated. It is reduced by £1 for every £2 your taxable income exceeds £100,000.  

Example 

John’s taxable income for 2024/25 is £110,000. His personal allowance is abated by £10,000/2 = £5,000, leaving him with £7,570. 

Above £125,140, there will be no personal allowance at all. The marginal tax rate where the income falls between £100,000 and £125,140 is 60% if it is subject to the main income tax rates (it will be slightly lower for dividends). This is because tax is payable on income that was previously covered by the lost allowance. It’s effectively 20% on the excess income over £100,000 as the abatement rate is at £1 for every £2 of excess, i.e. only half of the excess is actually subject to additional tax. 

Example 

In John’s example above, the excess £10,000 means a loss of £5,000 of the personal allowance. This will mean the £5,000 will be subject to tax at 40%, in addition to the £10,000 (which already falls into the higher rate tax band). This gives an effective rate of 60%. 

When planning how much income to extract from your company aim to avoid falling into the 60% effective rate band if possible.  

Profit extraction strategies compared 

Consider two contrasting profit extraction strategies for a single director company with profits of £250,000. The first (strategy A) assumes that the director chooses to take a salary of £12,570, and the rest of the after-tax profits as dividends. The second (strategy B) assumes that the director receives no salary and takes all of the profits out of the company as dividends. The contrasting positions in the company will be as follows: 

	Strategy A	Strategy B
Profits	£250,000	£250,000
Salary	(£12,570)	£0
Employers’ NI	(£479)	£0
Profits chargeable to CT	£236,951	£250,000
CT payable	(£59,042)	(£62,500)
Available as a dividend	£177,909	£187,500

 

The personal tax calculations are as follows: 

	Strategy A	Strategy B
Salary	£12,570	0
Dividend	£177,909	£187,500
Total	£190,479	£187,500
Tax on salary at 20% (£12,570 x 20%)	(£2,514)	0
Tax on dividend	(£57,377)	(£57,305)
Income after tax	£130,588	£130,195

 

So, strategy B is the better option, albeit only by a modest amount.  

An awkward position will arise if the company profits are at a level where a full withdrawal would mean your taxable income would fall into the abatement range, i.e. between £100,000 and £125,140. The optimum salary level for tax efficiency here is restricted to the remaining personal allowance, with the remainder taken as dividends. The problem is you need to know what the remaining personal allowance is in order to set the salary level. To work out the personal allowance, you need to know the total taxable income, which means you need to know the salary level to work out the optimum salary level - so you’re back where you started. 

Undrawn profits 

Remember, you could pay the equivalent of 60% tax on up to £25,140 where your total taxable income from your company plus that from other sources falls between £100,000 and £125,140. Leaving profits in your company is one way of avoiding this.  

When you draw profits as a dividend they are effectively taxed twice, first as CT on your company’s profits, and then as income tax on the dividends you receive. You can reduce the impact of this double taxation by changing the timing of when you take the dividends, i.e. you can spread the tax bill across a number of tax years. Leaving profits in the company also provides a safety net for future years in case of unforeseen events that could adversely affect profits. This became very apparent during the pandemic.  

Example 1 

Lilith has always extracted all profits from her company using a mix of a low salary topped up with dividends. 2024/25 is a particularly good year for the company. Its profits have increased to £140,000 from the usual level of between £110,000 and £120,000. If she adopts her usual strategy of taking salary equal to her tax-free personal allowance, £12,570 for 2024/25, and take the remaining profit as dividends the position would be as follows: 

Company 

Company profits	£140,000
Salary	(£12,570)
Employers’ NI	(£479)
Profits chargeable to CT	£126,951
CT payable	(£29,892)
Available as a dividend	£97,059

 

Lilith 

Salary	£12,570
Dividend	£97,059
Total	£109,629
Personal allowance	£7,756
Tax on salary	(£963)
Tax on dividend	(£24,492)
Income after tax	£84,174

 

Here, there are no profits left in the company. However, if Lilith were to restrict the dividend to just enough to make her total income £100,000, there would be £9,629 in undrawn profits. Her personal position would be: 

Salary	£12,570
Dividend	£87,430
Total	£100,000
Personal allowance	£12,570
Tax on salary	£0
Tax on dividend	(£20,039)
Income after tax	£79,961

 

Her after-tax income reduces by £4,213. Now, suppose 2025/26 is a particularly bad year for the company, and after applying her strategy Lilith has taxable income of £80,000. She can now extract the undrawn profits from the previous year. These will be taxed at 33.75%, leaving her with an extra £6,379 in after-tax income. Delaying taking the profits has therefore saved her £6,379 - £4,213 = £2,166 over the course of the two years. This is because spreading the profits means the personal allowance is no longer abated. 

Depending on what the long-term plans are, a director could leave undrawn profits in the company for many years, accumulating a fund that can help boost retirement income, when the dividends are likely to be lower.  

Example 2 

Let’s assume that Lilith has similar results for another 14 years. She adopts a profit extraction strategy to ensure she doesn’t fall into the personal allowance abatement range, i.e. restricting the combined salary and dividends to £100,000, leaving around £9,500 of undrawn profit in each of those years. Lilith then retires upon attaining state retirement pension age. She receives £11,000 per year initially. She also has a private annuity paying an additional £21,000. Assuming the personal allowance and basic rate band remains the same, these amounts would leave scope to withdraw around £18,000 of the undrawn company profits as a dividend, but let’s suppose she needs only £5,000 of this each year. Again, assuming the dividend tax rates don’t change, these will only be subject to tax at 8.75%. The accumulated profits, ignoring any interest or income from company investments using the funds, would be just short of £135,000 - enough to adopt this strategy for almost 27 more years. 

Of course, the undrawn profits could be invested by the company, meaning that Lilith’s company piggy bank could be considerably fatter by the time she reaches retirement. There are also other things she could do with the undrawn profits, and we’ll take a look at some of these in the next section. 

BEYOND SALARY AND DIVIDENDS

Salary and dividends are just two ways of extracting profits from your company. In this section we consider other ways you can use company profits to increase your efficiency beyond simply picking the best mix of salary and dividends. 

Other options 

There are more ways to extract value from your company than simply paying out salary or dividends. It’s possible for the company to pay for things that would otherwise need to be paid from your after-tax income. This will usually be a taxable benefit in kind, but there are some benefits that enjoy exemptions, and can be paid with no tax or NI consequences. 

If not all the profits are extracted, you could arrange for your company to use some or all of the funds to pay an employer pension contribution for you. This is a tax-efficient way of utilising profits as, unlike dividends, your company gets a CT deduction for the contributions. There are also tax breaks you can use if your company owes you money: it can pay you interest. Because this counts as savings income the 0% starting rate of tax for savings and the PSA can apply to the income. Another tax-saving strategy is to split company ownership with your spouse or civil partner. That way, depending on your partner’s other income, a similar tax-efficient profit extraction strategy can be used for them.   

Tax free benefits 

A number of benefits in kind your company provides are tax free, subject to conditions. Three of the most popular are, mobile phones, mileage payments and trivial benefits. 

Mobile phones  

No tax or NI is payable where a company provides an employee, including a director, with one mobile for personal use. For the exemption to apply, the contract for the phone must be between your company and the phone/phone service provider. With the latest phones easily costing four figures over the course of the contract, this is a valuable perk. The exemption applies not just to the cost of a phone but the services provided, including where the phone is not purchased but provided as part of a contract for services.  

Beware that if the company pays the bill for a personally owned phone, i.e. direct to the phone company, the amount paid is taxable as a benefit in kind and must be declared on the P11D. The payments count as earnings for NI purposes and are liable to Class 1 employees’ and employers’ contributions. However, the cost of calls for work purposes in addition to the normal phone contract charge is exempt for tax and NI purposes. If the company reimburses your mobile phone costs (rather than paying the phone company) the company must treat the payment as if it were salary and so deduct PAYE tax and NI. 

Mileage payments 

If you use a car or van not provided by your company for business journeys, your company can pay you a tax and NI-free mileage allowance. The maximum tax-free amount is 45p per mile for up to 10,000 miles and 25p per mile thereafter for each tax year. The NI-free rate is 45p per mile for all mileage, even that in excess of 10,000. The payments are CT deductible for your company. You should keep detailed mileage logs to back up the payments. 

Motorcycles and bicycles have their own approved rates - 24p and 20p per mile respectively. 

Trivial benefits 

A benefit in kind provided to employees (including directors) that costs an employer no more than £50 is exempt from tax and NI. Subject to the conditions explained below, the tax and NI exemption can apply to as many perks as you choose to get your company to provide you with. If a perk is already exempt, for example, the Christmas party, that exemption takes precedence over the trivial benefits exemption. 

Aside from the £50 per gift limit, the perk must not be: 

• in cash or a voucher convertible into cash. A gift voucher to spend in a shop or online is fine because it can only be exchanged for goods or services and not cash 

• a reward for doing your job 

• provided as a contractual right of the employment 

• provided as part of an optional remuneration arrangement, e.g. salary sacrifice. 

There’s an additional monetary cap for trivial benefits provided to directors of close companies and their families. As well as the £50 limit, the total cost to the company must not exceed £300 per tax year. 

Employer pension contributions 

If you do not need to extract all of the profits from the company, the excess can be left to accumulate, as in our earlier example for Lilith. She left just over £15,000 in undrawn profits in her company each year. However, the tax-efficient alternative would be to use those profits to make employer pension contributions. This can be even more efficient than letting them accumulate in the company as the contributions will be deductible for CT purposes. In Lilith’s case, this would save at least £15,320 x 19% = £2,920 and more if the higher rate applied to company profits. 

The obvious downside to this is that the money cannot be accessed until at least age 55 (rising to 57 from 2028) so it is not available if need by Lilith or the company. It can therefore make sense for her to retain at least some profits in the company. 

Special tax rates for savings income 

There are two savings allowances which are often overlooked when it comes to profit extraction. The first special tax rate is the savings starter rate (SSR). The SSR is a 0% rate band of up to £5,000 for savings income, e.g. such as interest. The amount available depends on the amount of your non-savings income. If this is above the tax-free personal allowance, the excess reduces the available SSR until it is zero. Dividends do not count as savings income. This means that if your only non-savings income is a salary of no more than £12,570, the full £5,000 SSR is available to you. 

The second special tax rate, also 0%, is the personal savings allowance (PSA). This is available to basic and higher rate taxpayers only and is £1,000 or £500 respectively. In determining whether you are a basic or higher rate taxpayer for the purposes of the PSA, you must add together all your taxable income including savings and dividend income. 

If you can arrange for your company to pay you interest, up to £6,000 can be tax free because of the SSR. However, to do this the company must owe you money. This could be in the form of a loan, your DLA having a credit balance, or money owed for assets transferred to the company. 

Interest has the advantage over dividends as it is usually tax deductible for CT purposes provided it doesn’t exceed a commercial rate. You will need to do a bit of research to decide on what is a reasonable interest rate. Remember that a small company would be seen as risky by a prospective lender so see what your bank would charge for lending to your company on the same terms and use this as a guide.  

If the loan to your company is open-ended or for a term of more than one year it will usually need to deduct income tax at the basic rate from the interest it pays you. It must report the payments and tax deducted to HMRC on Form CT61 quarterly, and pay the tax it deducted from you at the same time. The tax deducted from the interest by your company is allowed as a credit against your general tax liability. 

Income splitting 

Bringing another shareholder, who is part of your household, into your company, typically your spouse, civil partner or unmarried partner, potentially doubles the tax-free personal allowances, basic rate bands, savings allowances and dividend allowances available to reduce tax on extracted profit. In addition this provides greater scope for: 

• paying employer pension contributions for your partner if they work in the company’s business.  

• reducing the company’s NI liability by claiming the EA that would not be allowed if you were the only salaried worker. 

Introducing another shareholder - other tax issues 

If the other member of your household is your spouse or civil partner, you can bring them in as a shareholder by transferring some of your company shares to them without potentially resulting in a capital gains tax (CGT) charge.  

If the other household member is not your spouse or civil partner, the transfer of shares can result in a CGT bill because it is treated as if you had sold the shares at their market value (MV). Where the MV is higher than the shares cost you (the cost is more often than not negligible if you set the company up from scratch), the difference between these values is a capital gain. However, the tax trap does not bite if the other household member is issued shares when the company is formed as long as they are active in the company as a director, employee or both. 

Example 

To see what effect this could have, let’s assume Lilith’s company from our earlier examples has an ordinary year with profits of £100,000. On her own, a full distribution using a salary of £12,570 and the remainder as dividends would leave her with £66,907 after tax and NI. However, if Lilith introduced her civil partner Eve as a director shareholder for 2024/25, then assuming they both take a salary of £12,570, and share the dividends equally (£29,386 each), the position will be as follows: 

Gross profit	£100,000
Salaries	(£25,140)
Employers’ NI	£0
Profits chargeable to CT	£74,860
CT	(£16,088)
Dividends available (total)	£58,772
Directors’ gross income	83,192
Income tax	(£5,056)
Employees’ NI	£0
Director’s net income	£78,856

 

That is a tax saving of nearly £12,000 compared with the tax position of Lilith and her company from earlier.