There is a major change in the taxation of small companies being introduced from April 2016.
Currently, dividends carry a tax credit of 10%. Whilst dividends are not deducted from the profits of the company before calculating the company’s tax they do not attract any further tax on the recipient provided that the recipient is a basic rate taxpayer.
Also, there is currently a reduction in the employers NIC payable by a company of up to £2,000 in each tax year, and this is set to increase to £3,000 next year. This is the “Employment Allowance”.
From April 2016, however, all this will change. Firstly, a new tax free dividend allowance of £5,000 per person will be introduced. However, all dividends received above that amount will be taxed at a minimum of 7.5%. At the same time, the Employment Allowance will be removed from “one-man” limited companies.
The combined effect of the above changes is to remove the current tax incentive to sole-traders to transfer their business into a limited company. There may still be a very small tax saving to companies with profits of about £12,000 to £15,000 but the additional costs of operating as a company will most probably more than outweigh any savings, and even these possible small savings very rapidly disappear as profits increase.
There may still be a tax saving if a sole trader’s profits exceed the basic rate tax band, and the excess profits are retained within the company for re-investment. Similarly, if there are other reasons to operate through a company then dividends may still show a tax saving compared to salaries subjected to PAYE and National Insurance. The only way to find out is to “number-crunch” in each case.
One thing is certain. With these changes and the restriction of the tax deduction available to personal service companies in respect of travelling expenses the government have finally achieved their desired aims when they introduced the IR35 provisions over 10 years ago. The golden days of saving tax by operating through a company have finally disappeared.