Family companies – optimal salary for 2019/20
Do you have the optimal salary for tax purposes? For personal and family companies it can be beneficial to extract some of your profits in the form of a salary.
If you do not have 35 qualifying years in order to be eligible for your full single-tier state pension, paying a salary which is equal to or above the lower earnings limit for National Insurance purposes will ensure that the year is a qualifying year.
New tax rates and allowances came into effect from 6 April 2019, applying to the 2019/20 tax year. These will have an impact on the optimal salary calculation for family and personal companies. The optimal salary level will depend on whether or not the National Insurance employment allowance is available.
It should be remembered, as a director, you will have an annual earnings period for National Insurance purposes.
Employment allowance unavailable
Companies in which the sole employee is also a director, you are not able to benefit from the employment allowance. This means that most personal companies are not eligible for the allowance.
Where the allowance is not available or has been utilised elsewhere?
The optimal salary for 2019/20 is equal to the primary and secondary threshold set at £8,632.
This is equivalent to £719 per month or £166 per week.
If your director’s personal allowance (set at £12,500) is available, there is no tax or employer’s or employee’s National Insurance to pay.
However, as your salary is above the lower earnings limit of £6,136 (£512 per month, £118 per week), it will provide a qualifying year for state pension and contributory benefit purposes.
Your salary is deductible in calculating your company’s taxable profits for corporation tax purposes, saving corporation tax of 19%.
Employment allowance is available
It is beneficial for you to pay a salary equal to your personal allowance. This is assuming that this is not used elsewhere, where your employment allowance, set at £3,000 for 2019/20, is available to shelter your employer’s National Insurance.
This would otherwise arise if your salary exceeds £8,632.
Although employee’s National Insurance is payable to the extent that the salary exceeds the primary threshold of £8,632, this is more than offset by the corporation tax deduction on the higher salary.
For 2019/20, a salary equal to the personal allowance of £12,500 exceeds the primary threshold by £3,868.
Therefore, employee’s National Insurance of £464.16 (£3,868 @ 12%) is payable on a salary of £12,500.
However, as salary payments are deductible for corporation tax purposes, the additional salary of £3,868 saves corporation tax of £734.92 (£3,868 @ 19%).
This saving exceeds the employee’s National Insurance payable by £270.76.
So, if your employment allowance is available, paying a salary equal to your personal allowance of £12,500 will allow for more profits to be retained (to the tune of £270.76) than paying a salary equal to the primary threshold of £8,632.
A director of a family business may have a higher personal allowance, for example, where a marriage allowance is applicable. The optimal salary is one equal to that higher personal allowance.
Director is under 21
For a director under the age of 21, the optimal salary is one equal to your personal allowance of £12,500. This assumes that this is not used elsewhere and is regardless of whether employment allowance is available.
No employer National Insurance is payable on the earnings of employees or directors under the age of 21. This is not applicable until earnings exceed the upper secondary threshold for under 21’s. This is £50,000 for 2019/20. Employee contributions are, however, payable as normal.
Any benefit in paying a salary above the personal allowance?
Once your personal allowance is reached, it is not worthwhile paying a higher salary. Further salary payments will be taxed and the combined tax and National Insurance hit will outweigh the corporation tax savings.