EMTACS
Entertainers and Musicians Taxation & Accountancy Services
69 Loughborough Road, West Bridgford, Nottingham, NG2 7LA
Phone 0115-981-5001 Fax 0115-981-5005

Would you like to save £3,000 in tax?

Ever fancied running your own company?

Anyone who takes an interest in weekend newspaper articles about finance or anyone who bothered to read our Budget newsletter will know that there have been changes to the way Limited Companies are taxed.  This has left us with a huge opportunity to help our clients save an arm and a leg in tax.  However for those of you who don’t often take much of an interest, I’ll explain.

A limited company is a business that is operated separately from an individual.  It has a life and an existence all of its own.  When a limited company comes into existence it has a number of shares, usually 100 or 1000.  The company sells shares to individuals who pay (say) £2 for 2 of these shares.  The company then trades, buys goods, provides services and whatever and is responsible for its debts.  If, at any time, its debts are bigger than its assets, it could be made bankrupt.  If this happens the shareholders’ liability is limited to the amount they invested in the shares.  Thus they can only lose the £2 they’ve put into the company, even if the company owes substantially more.

A fine example of this is the collapse of ITV Digital whose shares are owned by Carlton and Granada.  The debts of ITV Digital stop with that company and Carlton and Granada cannot be forced to pay up any more than they did when they bought their shares in the company – no matter how much the football clubs may huff and puff.

This protection from creditors used to be the main reason for operating as a company.  Then if your company went bust, ugly men with crowbars didn’t come and take your settee away.  You dusted yourself down and carried on trading (hence all those scams with double glazing companies).

…here’s how you do it…

A limited company is taxed in a different way to an individual.  If it makes money it pays Corporation Tax.  This starts at 0% for the first £10,000 of profit.  If your profits are between £10,000 and £50,000 you pay Corporation Tax on a sliding scale that slowly increases to 19%.  Any profits between £50,000 and £300,000 are taxed at 19%.  The company hands this over 9 months and a day after your year-end.  Anything that’s left over can then be paid out to shareholders.  

However the ways to get money out of a company vary.  We used to say that to get any money out of a company, you would have to pay tax on it and that’s still true of ‘wages’.  A director of a limited company (can be the same person as a shareholder) can take money out as a wage and this should be dealt with under a PAYE scheme.  Tax and National Insurance will be deducted and on top of this the company has to pay employer’s NI (an extra 11.8% of the wage).  Imagine your pet limited company gives you £1,000.  What’s going on here?  Well you’ve actually earned a Gross Wage of £1261.13 from which £261.13 has been taken.  The company also has to pay over £103.38 in Employer NI as well meaning the company is £1,364.51 poorer in order to hand over the £1,000. 

The tax advantages that you can get relate to taking out money from the company not as a director of the company but as a shareholder.  Share dividends can be paid by a company out of the profits of the business and because these are treated as investment income, you are not charged any National Insurance.  In a weird way, the dividend payments are treated as if they had already been taxed at 10%.  This suits a basic rate taxpayer because dividends are taxable at 10%, up until Higher Rate tax cuts in, when more tax will be payable.

So imagine a company makes a £1,000 profit and pays it over as a dividend to it’s shareholder.  The profit is so small that the company pays no tax on it.  The shareholder gets the dividend of £1,000 and this is treated by the tax system as if it had had tax of 10% taken off it already.  That’s it.  If the shareholder is a Basic Rate taxpayer that’s the end of the story.  No Company (Corporation) Tax, no Income tax, no National Insurance. 

Tax Free Money, end of story?

For a higher rate taxpayer, it isn’t the end of the story.  The system looks at the dividend and asks for extra tax on it (at a rate of 32.5% - for complex reasons – don’t ask!). The idea is to make it so that you will have paid 40% tax on the money.   Even so, for the small-profit limited company there’s still money to be made.  To put £1,000 into a higher-rate person’s hands costs £1,620.  In order to put £1,000 into the hands of a Higher Rate self-employed individual would require £1,666. 

In theory nearly everyone who is paying tax at Basic Rate would benefit from operating as a limited company.  So why isn’t it happening everywhere?  And why hasn’t EMTACS been shovelling people into these schemes before?

The second question’s easier.  It’s only in the last few weeks that a really favourable tax situation has arisen from the last Budget that introduced the £10,000 Corporation Tax free band for small companies.

..So where are the drawbacks?

…and why isn’t it universal?  Well being a Limited Company has its disadvantages.

1.  It isn’t free.  To get a limited company set up costs a bit more than £100, using a company-formation specialist.  If we begin forming companies on a regular basis, we’d do it ourselves and charge less than this.  You have to file annual Returns with Companies House in Cardiff and there’s an annual fee of £15.  You also have to annually file accounts and other bits of bureaucracy with Companies House and the Inland Revenue, who will also want a Corporation Tax return.  But then those of you who have been around since 1996 will know that things have been getting tighter and meaner for the self-employed ever since then, anyway, so deadlines are a fact of life.

2.  The accounts that are required are not quite the same as you would traditionally expect from us.  We generally prepare Income and Expenditure accounts that are quite sufficient for the Revenue, the banks and building societies.  Company accounts require balance sheets and a whole lot of other fancy things in order to fit in with Company Law.  This kind of accounting is a much more exact science, takes us longer and ultimately costs you more.  Whereas preparation of an individual’s set of accounts typically works out at around £220-280, a limited company set of figures would cost double that with further costs of around £125 for preparing the Corporation Tax Return.  With a personal return to do as well, a budget of £700 + VAT per annum in accountancy bills seems likely.

3.  A limited company requires more in the way of book-keeping than some of our clients are used to.  They need a separate business bank account, rigorous keeping of bank transactions on top of the normal need to keep receipts, invoices and payslips.  It requires a bit of a philosophical change from playing a trombone to running a business.  More bureaucracy, more form filling and although we’ll help with all this, some people just aren’t ready for this.

4.       There is the possibility that the Inland Revenue may object to some of these companies.  If they are able to show that they are just ‘service companies’, providing bog standard services of one person to one ‘employer’, then they may come under the provisions of an Inland Revenue rule called IR35 that would more than wipe out any possible tax benefits.  Thus for someone playing 52 weeks of the year with the same show or orchestra it might not work out. 

5.  Having a low salary and high dividends has implications for your pension contributions.  If you do use this plan, you will not be able to put more than £2,808 per annum (i.e. £3,600 pa less tax relief) into a pension scheme without some clever juggling.  If high pension contributions are important to you, this can be sorted out, but it does reduce the tax savings.  This aspect is quite complicated though and may need talking through.

6.  An obligation of a limited company is that it must publish its accounts with Companies House in Cardiff and this means anyone who’s interested will be able to find out your financial position if that bothers you. 

…and how much will I save?

But having been gloomy about it, have a look at this table to give you some idea of what can be saved

If you earn more than this, your tax-saving won’t alter much, although it will continue to increase.  Each extra £1 you earn will cost you 40p if you take it as self-employed profits but 39p if you take it as a shareholder’s dividend. 

It isn’t the only advantage either.  Using a limited company is a good way to channel money to a spouse or partner, if they are shareholders in the company and in that way, Higher Rate taxpayers can dilute their tax payments, although this will need some serious thought.

Also money can be hoarded up in affluent years and paid out in quiet years so smoothing things out from a tax point of view.  OK you have to leave the money in the company (i.e. in the company bank account earning interest) but it can be very useful if profits fluctuate. The crucial fact is that it’s the company’s money not yours until you take it out as salary or dividends.

Then again there are other factors: anyone can VAT register and it may be worthwhile. If you have to keep accounts to limited company standards then why not VAT register and keep the VAT on all your purchases? You may have to pay us to do the return but the VAT you keep should be more - see our helpsheet on VAT if you want more bedtime reading.

…and won’t they put a stop to it?

A lot of the press coverage we’ve seen and some of the technical stuff that passes by us implies that this is a loophole and that once several million people jump on the bandwagon, they will revise their legislation to put a stop to it.  But the tax savings above are the amount that can be saved each year, so even if the rules are in place for just a couple of years the tax saved will be very substantial.

If it comes to it, dis-incorporation or winding up the company can be complicated if you have loads of employees, fixed assets, debtors, creditors, pension funds, etc.  However for the likes of our clients it would not be difficult to do should the tax systems change substantially in the future and Schedule D is the place to be.  It’s just not something you would do on a regular basis. Bear in mind that it has taken many years and budgets (the 0% rate for the first £10,000 profits only came in this April) for incorporation to become so decisively advantageous so it’s hard to imagine a reversal overnight!

If you want to know more do contact Angie or Geoff and we’ll tell you more of what might be involved and if you want to join the ranks of Company Directors, just let us know and we’ll tell you how to start the ball rolling.  Don’t get carried away with notions of expense account lunches and company cars as these are benefits on which you still have to pay tax! Just concentrate on the figures above and the tax savings

We’re sending this little leaflet out to all our clients, no doubt including some people for whom it is not so appropriate.  If so, please pass it on to someone else.  The savings are impressive but don’t forget the extra accountancy fees; the one-off set up cost of setting up; the extra cost of having a business bank account (now cheaper than ever and even cheaper over the Internet) and, most importantly, the time spent on keeping better records and sticking to deadlines…if you don’t think you can handle all that or you don’t pay that much in tax, then just carry on as you are.

And, for those of you that like pictures...

back to top of page