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Tax Strategies for Ltd Companies

Tax Strategies for Ltd Companies

17

January

2025

In today’s competitive business environment, limited companies are a popular choice for entrepreneurs and business owners looking to separate personal and business finances while benefiting from specific tax advantages. However, to maximise the potential financial benefits of operating as a limited company, directors and shareholders must be proactive in optimising tax efficiency. With various tax obligations and planning opportunities available, it’s crucial to leverage the right strategies to minimise tax liabilities while staying compliant with the law.

Understanding the Tax Environment for Limited Companies

Limited companies are subject to several types of taxes, including corporation tax, VAT, and PAYE taxes. The key to tax efficiency is understanding the interplay between these taxes and finding legal methods to reduce the overall tax burden.

Corporation Tax: The most significant tax obligation for a limited company is corporation tax, which is charged on the company’s profits. As of 2023, the corporation tax rate in the UK is 25% for businesses with profits over£250,000. However, businesses with profits under £50,000 benefit from a reduced rate of 19%, and a marginal relief applies to those with profits between £50,000 and £250,000.

Dividends Tax: Shareholders of a limited company often receive income in the form of dividends, which is typically taxed at lower rates than salaries. The dividend tax rates are as follows: 8.75% (basic rate), 33.75% (higher rate), and 39.35%(additional rate) on amounts above the £1,000 tax-free allowance for dividend income.

PAYE - Income Tax and National Insurance: For company directors drawing a salary, income tax and National Insurance contributions (NICs) apply. The salary level will affect the amount of tax and NICs paid, and balancing salary and dividends is a key strategy for directors.

 

Effective Tax Strategies for Directors and Shareholders

Here are some proven tax strategies that directors and shareholders can consider to optimise tax efficiency:

1. Pay a Combination of Salary and Dividends

A widely adopted strategy for minimising tax is to structure renumeration as a combination of salary to dividends £12,570 for the 2024/25 tax year) allows directors to take advantage of tax-free income without triggering income tax.

Dividends are then paid from post-tax profits, and as mentioned, dividends are taxed at lower rates than salary income. This approach helps reduce overall National Insurance contributions (NICs) and limits exposure to higher rates of income tax.

For example, a director might pay themselves a salary up to the personal allowance, then receive additional income in the form of dividends. This strategy ensures the company’s profits are efficiently distributed while keeping personal tax liabilities to a minimum.

2. Utilise the Annual Investment Allowance (AIA)

The Annual Investment Allowance (AIA) provides tax relief on qualifying capital expenditure for limited companies. For the 2024/25 tax year, businesses can claim 100% tax relief on the first £1 million spent on equipment, machinery ,and certain other business assets.

This is a valuable strategy for directors looking to invest in their business infrastructure while lowering the company’s taxable profits. It’s essential to plan investments effectively to ensure they fall within the eligible categories for AIA, which therefore enables immediate tax deductions.

3. Take Advantage of R&D Tax Credits

Companies involved in research and development (R&D) activities can benefit from R&D tax credits. This is a government scheme that offers financial incentives to companies investing in innovative projects. The scheme allows for a reduction in corporation tax or the opportunity to receive a cash payment from HMRC.

For directors and shareholders of companies in technology, engineering, or scientific fields, R&D tax credits can be a significant source of tax savings. Companies that qualify can claim up to 33% of their R&D costs, which can substantially reduce tax liabilities.

4. Pension Contributions

Contributing toa pension scheme is an effective way to reduce a company’s taxable profits while saving for retirement. Pension contributions made by a limited company on behalf of its directors and employees are deducted from the company’s profits before tax, which reduces the overall tax liability.

Contributions toa pension are tax-free up to £60,000 per year and contributions must be "wholly and exclusively" for business purposes. Any contributions in addition to this will be subject to a tax charge.

5. Utilise the Family Investment Strategy

For family-run limited companies, there are strategies available to optimise tax efficiency across multiple family members. By gifting shares to family members, directors can reduce their taxable income by spreading dividend payments across family members, particularly those in lower tax bands.

Incorporating family members as shareholders can provide an opportunity to optimise the tax-efficient distribution of profits while benefitting from the personal allowance or lower tax rates for each individual shareholder.

6. Capital Gains Tax (CGT) Planning

When selling shares or business assets, company directors and shareholders may be subject to Capital Gains Tax (CGT). However, there are several reliefs available that can help reduce CGT exposure:

Entrepreneurism ’Relief (Business Asset Disposal Relief): This relief can reduce the CGT rate to 10% on the first £1 million of gains from the sale of shares in a trading company. Directors and shareholders may benefit from this relief if certain conditions are met, such as holding shares for at least two years.

Rollover Relief: If business assets are sold and the proceeds are reinvested into new business assets, rollover relief allows CGT to be deferred until the new assets are disposed of.

Careful planning and timing of the sale of business assets or shares can help minimise CGT liabilities, particularly for those planning to retire or exit their business in the future.

Conclusion

Optimising tax efficiency for limited companies is essential for maximising profits, enhancing cash flow, and ensuring long-term financial health. By implementing strategies such as balancing salary and dividends, utilising tax reliefs for capital expenditure and R&D, contributing to pensions, and making smart investment choices, directors and shareholders can reduce their tax liabilities and keep more of the business’ profits.

As with any tax planning strategy, it’s important to work with a qualified accountant or tax advisor to ensure that you are taking full advantage of available opportunities and complying with all legal obligations. Regularly reviewing your tax strategies is essential to stay ahead in the ever-changing tax environment

At Toast, we can help you plan effectively, book a call with us today to learn more.

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