When you start your own company, you are faced with a number of new payments which need to be made. Here is a quick review of the taxes and NICs you need to make when you start contracting via a limited company:
- Income Tax. These are the payments you will be all too familiar with if you have ever worked in permanent employment. Although you are not obligated to pay yourself a salary, it is advisable to do so for IR35 purposes; not paying any income tax at all may ring alarm bells at HMRC headquarters as someone who is actively avoiding it altogether, so paying yourself a market rate salary may reduce risk of investigation. In paying yourself a salary, this income will be subject to income tax. Income tax can be paid monthly or on a quarterly basis and you will need to submit a personal tax return by 31st January after the end of the tax year.
- National Insurance Contributions As a self-employed worker, your income will be subject to Class 2 and Class 4 national insurance contributions. Previously you had to register for paying Class 2 national insurance contributions but after 6th April 2015, this will no longer be necessary as the payments will be added to your bill after you have submitted your Self-Assessment tax return. Class 2 NICs are paid at a £2.80 per week flat rate (2015-16) if earning profits of £5965 or more per year. These contributions are paid once HMRC send you a payment request in April. Class 4 NICs are paid at 9% of annual profits of £8060 up to £42385, and at 2% for annual profits of £42385 or more. These contributions are paid through your Self-Assessment tax return.
- Corporation Tax. This is a tax your company pays on its profits. Corporation tax is paid at 20% on all profits (as of 1st April 2015) and must be paid within 9 months and a day of your company’s incorporation date. You will also need to complete a corporation tax return within 12 months of the end of your company’s Corporation Tax accounting period. You must set up for Corporation Tax within 3 months of starting any form of business activity.
- 4.VAT. For those of you who expect to earn over £81000 or more in annual turnover during a 12 month period, will need to register for VAT (Value Added Tax). VAT is the tax which is paid on goods and services, you pay it when you buy anything from a shop for example, but it is already included in the price. When you reach the aforementioned threshold, you will need to start applying VAT to your services and paying it to HMRC. There are two schemes for paying VAT; Flat Rate VAT and the ‘cash’ scheme. Seek advice from your accountant as to which is most suitable for you.
- Tax on Dividends. The majority of UK contractors will take income from their company in the form of dividends. This is the most tax efficient way and is one of the main reasons that many choose to trade with a limited company in the first place. There is a 10% tax credit for dividends made to take into account corporation tax already paid on the sum. This means that basic rate taxpayers will not pay any tax on their dividends (as the rate is 10%, the 10% tax credit cancels it out), but higher rate taxpayer’s dividends will be subject to tax. Check HMRC’s website for current rates if this applies to you.
As Director of a limited company, you are legally responsible for ensuring that these payments are made correctly and on time, as well as submitting the relevant tax returns timely and accurately.