As the director wishing to take money out of the company, popularly you have two options : salary or dividends.
However, the best answer is not fairly straightforward and the approach is tailored to the context of the individual. Additionally, there may be legal and regulatory considerations to take into account. So what is the best course of action?
Balancing Financial Goals with Long-Term Tax Planning
The corporation tax system is generally more favourable and tax-efficient compared to individual income tax. Companies with profits up to £50,000 pay a lower corporation tax rate of 19%, while those with profits over £250,000 are taxed at 25%. For profits between these limits, marginal relief applies, resulting in a gradual increase in the effective rate.
In contrast, individuals pay income tax at 40% once their income exceeds £50,270, and at 45% on income above £125,140.
As every rose has its thorn, the lower tax rate is beneficial only if you wish to keep the money in the company. A major issue arises when you wish to take money out of the company.
We are going to look in detail at each option to determine what is more tax- beneficial to you.
How Directors are Taxed : Employment Income
Employment income generally means Salary and bonuses.
Employment income is subject to Income tax and National Insurance contribution. However, these expenses are tax deductible in the hands of the company.
The Income tax rate on the directors’ salary is:
Tax Rate | Taxable Income (2025/26) | Taxable Income (2024/25) |
|---|---|---|
20% | First £37,700 | First £37,700 |
40% | £37,700 - £125,140 | £37,700 - £125,140 |
45% | Above £125,140 | Above £125,140 |
For Example,
Paul earns £40,000 annual salary as the director of company. What will be his income tax?
Particular | Income |
|---|---|
Annual salary | £40,000 |
Less personal allowance(PA)* | (£12,570) |
Taxable income | £27,430 |
PA*: If your taxable income goes over £100,000, your tax-free Personal Allowance starts to reduce. For every £2 of income above this level, you lose £1 of your allowance. By the time your income reaches £125,140, the allowance is fully removed.
Since, Paul is the basic rate taxpayer total income tax liability would be £5,486 (£27,430*20%).
In addition to the income tax, national insurance contribution is required by both Company and from the director’s salary on the level of the salary income paid.
The contribution from the Director’s salary is Primary Class 1 National Insurance Contribution. Whereas, the contribution by the company is Secondary Class 1 National Insurance Contribution.
For the directors’ salary income, the national insurance contribution (Class 1) is as follows:
Class 1 Limit | Annual Salary (2025/26) | Annual Salary (2024/25) |
|---|---|---|
Primary Threshold | £12,570 | £12,570 |
Secondary Threshold | £5,000 | £9,100 |
The detail of the National Insurance contributions rate has been given below:
Contributor | Earnings in band | 2025/26 rate | 2024/25 rate |
|---|---|---|---|
Employee | Up to £12,570 | 0% | 0% |
£12,571 - £50,270 | 8% | 8% | |
Above £50,270 | 2% | 2% | |
Employer | Up to £9,100 | 0% | |
Above £9,100 | 13.8% | ||
Above £5,000 | 15% |
For Example,
Continuing with the above example, his national insurance contribution during 2025/26 would be as follows:
Earnings in band | Rate | Class 1 Employee NIC |
|---|---|---|
First £12,570 | 0% | £0 |
Next £27,430 | 8% | £2,194 |
Total | £2,194 | |
Assuming that the company utilised the Employment allowance of £10,500 in the current year, his company’s national insurance bill on his salary will be:
Tax | Limits | Secondary Contribution |
|---|---|---|
0% | On the first £5,000 | £0 |
15% | On the next £35,000 | £5,250 |
Total | £5,250 | |
The company’s national insurance bill is £5,250, but since the contribution is tax-deductible, the company’s national insurance bill on his salary net of corporation tax is £4,252.
Note: Employment Allowance is not available if a company has only one director on the payroll and no other employees earning above the Secondary Threshold (£5,000 in 2025/26). In such cases, HMRC does not consider the company eligible for the allowance.
However, if there are two directors who are both on the payroll and earning above the threshold, the company is generally eligible to claim the £10,500 Employment Allowance, as it is treated as having more than one employee for this purpose.
To summarise both illustrations:
Particulars | Amount |
|---|---|
Income tax | £5,486 |
Director’s National Insurance contribution | £2,194 |
Company’s National Insurance contribution | £5,250 |
Total Tax | £ 12,930 |
So, What is Optimal Salary?
Let’s look at this with an example assuming that the company does not have a spare employment allowance:
For Example,
Sam has withdrawn a salary of £5,000 during 2025/26. As this is within the secondary threshold limit for employers, the company is not required to make any National Insurance contribution.
The corporation tax relief on the payment is £950 (calculated at 19%).
However, increasing the salary from £5,000 up to £12,570 will result in some employer’s National Insurance contributions. Still, since the additional salary and employer’s National Insurance are tax-deductible expenses, the resulting corporation tax relief will outweigh the National Insurance cost.
When the salary is £12,570, the employer’s National Insurance contribution will be:
£7,570 × 15% = £1,135.50
The corporation tax relief on the increased salary and employer’s NIC will be:
- Salary relief: £7,570 × 19% = £1,438.30
- NIC relief: £1,135.50 × 19% = £215.75
Total extra corporation tax relief = £1,654.05, which outweighs the employer’s National Insurance cost of £1,135.50.
Paying a salary above £12,570 becomes less attractive as both employer and employee National Insurance contributions will apply above the primary and secondary thresholds.
But what if there is a spare employment allowance?
If the company is eligible for the Employment Allowance, then paying a salary of £12,570 to the director becomes more tax-efficient, as this amount is fully covered by the personal allowance and remains free from income tax.
Sam, the director, has withdrawn the salary of £12,570 during the 2025/26 tax year. Since this amount is equal to the Primary Threshold, there is no employee National Insurance contribution to pay.
Now, normally, the employer would be required to pay National Insurance on the portion of salary above the Secondary Threshold of £5,000. That taxable portion is:
- £12,570 – £5,000 = £7,570
At the 2025/26 employer NIC rate of 15%, the liability would be:
- £7,570 × 15% = £1,135.5
However, since the company has spare Employment Allowance, this £1,135.5 employer NIC is fully covered, meaning the company pays no NIC at all.
On top of that, the full salary of £12,570 is treated as a tax-deductible expense, reducing the company’s profit for Corporation Tax purposes. This results in a tax saving of:
- £12,570 × 19% = £2,388.30
So, by paying £12,570 instead of a lower salary (e.g. £9,100), the company:
- Keeps the director below the income tax and NIC thresholds,
- Avoids employer NIC entirely due to Employment Allowance, and
- Gains a higher Corporation Tax relief on the increased salary.
This makes £12,570 the optimal salary for 2025/26 where Employment Allowance is available.
How Directors are Taxed: Dividend Income
Paying Dividend is the most popular option for taking the money out of the company. Unlike salary, Dividend payment avoids paying any National Insurance contribution by both Company and the Director.
For Dividend earned in 2022/23, the dividend allowance is £2,000. The Dividend allowance will be reduced from £2,000 to £1,000 from April 2023 and then to £500 from April 2024.
Tax year | 2023/24 | 2024/25 | 2025/26 |
|---|---|---|---|
Dividend Allowance | £1,000 | £500 | £500 |
For dividend received in excess of the allowance, the tax rate is as follows :
Taxable Dividends | Rate (2024/25) | Rate (2025/26) |
|---|---|---|
Dividends taxable at Basic Rate | 8.75% | 8.75% |
Dividends taxable at higher Rate | 33.75% | 33.75% |
Dividends taxable at additional rate | 39.35% | 39.35% |
For Example,
Samantha is the sole director of a company. In the 2025/26 tax year, she is paid a salary of £12,570 and also receives a dividend of £20,000, bringing her total income to £32,570.
Let’s break this down:
- The salary of £12,570 is fully covered by her Personal Allowance (which is also £12,570 in 2025/26), so no income tax is payable on the salary.
- That leaves £20,000 of dividend income. Out of this:
- The first £500 is covered by the Dividend Allowance and is tax-free.
- The next £19,500 falls within the basic rate band (since total income remains under the higher-rate threshold of £50,270).
- This £19,500 is taxed at the basic dividend tax rate of 8.75%.
So, the dividend tax payable is:
£19,500 × 8.75% = £1,706.25
Every taxpayer, no matter their income level, is entitled to receive the Dividend Allowance. If any Personal Allowance remains unused, which is not the case in the above example, it can provide additional tax-free income.
When dividends are paid, no National Insurance contributions are due on this income, making dividends a more tax-efficient way to withdraw money from a company compared to taking a salary.
Additionally, the overall income tax payable on salary income tends to be higher than the tax on dividends.
Scenario Comparison: Director Drawing £32,570 from Company
As a company director, how you pay yourself—through salary, dividends, or both—can make a big difference in how much tax you owe.
Let’s take Samantha, who takes £32,570 from her company in the 2025/26 tax year. We’ll look at three ways she could do this:
- Taking £12,570 as salary and £20,000 as dividends
- Taking the full amount as dividends only
- Taking the full amount as salary only
We’ll compare these options to see which one is most tax-efficient.
Scenario 1: £12,570 Salary + £20,000 Dividend
For Samantha (the Director)
Component | Amount | Tax Treatment | Tax payable |
|---|---|---|---|
Salary | £12,570 | Fully covered by Personal Allowance | £0 |
Dividend (free) | £500 | Covered by Dividend Allowance | £0 |
Dividend (taxed) | £19,500 | Taxed at 8.75% (within basic rate) | £1,706.25 |
Total Tax | - | - | £1,706.25 |
For the Company:
- Salary of £12,570 is deductible for corporation tax purposes.
- Employer NIC may be covered by Employment Allowance (if available).
- Dividends of £20,000 are not deductible for corporation tax purposes.
Scenario 2: £32,570 Taken Entirely as Dividends
For Samantha:
Component | Amount | Tax Treatment | Tax payable |
|---|---|---|---|
Dividend (free) | £500 | Covered by Dividend Allowance | £0 |
Dividend (taxed) | £32,070 | Taxed at 8.75% (within basic rate threshold) | £2,805.13 |
Total Tax | - | - | £2,805.13 |
For the Company:
- Entire £32,570 is paid as dividends, which are not tax deductible.
- No employer NIC to pay.
Scenario 3: £32,570 Taken Entirely as Salary
For Samantha:
Component | Amount | Tax Treatment | Tax payable |
|---|---|---|---|
Salary | £12,570 | Tax-free (within Personal Allowance) | £0 |
Salary | £20,000 | Taxed at 20% (basic rate band) | £4,000 |
NIC (Employee) | £20,000 (£32,570 -£12,570) | 8% | £1,600 |
Total Tax & NIC | - | - | £5,600 |
For the Company:
- Entire salary is deductible for corporation tax.
- Employer NIC @15% on salary above £5,000 = £4,135.5
- Covered by £5,000 Employment Allowance.
In conclusion, the most tax-efficient way for a director to withdraw £32,570 from their company in the 2025/26 tax year is to take a salary up to the personal allowance limit of £12,570 and the rest as dividends.
This approach balances personal tax, avoids unnecessary National Insurance costs (especially if the Employment Allowance is available), and allows part of the income (the salary) to be deducted for corporation tax purposes. Taking the full amount as dividends results in higher personal tax, and taking the full amount as salary leads to both high income tax and National Insurance contributions, making it the least efficient option overall.
Overall Tax on Dividend-From Company and Director’s Point of View
Once the salary up to the optimum level as discussed above has been paid, it is more beneficial for the director to receive anything above that amount as dividend.
Since dividend is paid out of the post-tax profit, any dividend paid will be taxed twice- Once at 19% as corporation tax (between 19% and 25% from 1 April 2023) and next at the dividend rate in the hands of the directors.
So effectively, the total tax for 2022/23 and onwards would be:
Taxpayer | Total tax (at 19% Corporation tax) | Total tax (at 25% Corporation tax) |
|---|---|---|
Basic rate taxpayer | 26.08% | 31.56% |
Higher rate taxpayer | 46.34% | 50.31% |
Additional rate taxpayer | 50.31% | 54.51% |
To explain the above table better let’s look at the example
For Example,
A company with a profit of £100 is taxed at 19% as corporation tax which will be £19. The profit after tax for the company will now be £81 which the company distributes as a dividend.
Assuming the director has utilised the Dividend allowance and the director is higher rate taxpayer, on the dividend of £81, the director will have to pay tax of £27.34 at 33.75%, so the total tax paid on the profit of £100 is £46.34
The reason for the total tax on dividend being higher than other conventional tax rates (20%, 40% and 45%) is to make fair treatment to the directors who wants to take salary instead of being paid dividend.
When is it preferrable to take a Salary or Dividends?
Comparatively, Dividend is more popular option than Salary. However, there are some instances where Salary will be preferred.
To summarise this:Preferrable to take Salary
It may be tax beneficial for a director to receive a salary if they are earning less than the personal allowance and do not have significant other sources of income. In this case, the salary would be taxed at the director's marginal tax rate, which could be lower than the tax rate applied to dividends.
Preferrable to take Dividend
If the director has a high level of income from other sources, it may be more tax efficient for them to receive dividends instead of salary, as the tax rate on dividends is generally higher than the marginal tax rate. Tax treatment of dividends varies based on individual income and amount received
In conclusion, deciding whether to pay yourself a salary or dividends as a director of a limited company is a complex decision that depends on a variety of factors. By seeking professional advice and considering your personal financial situation, goals, and tax implications, you can make an informed decision that is most tax-efficient and beneficial to you.
Whether you opt for a salary, dividend, or a combination of both, understanding the tax implications and planning ahead can help you maximize your take-home pay and achieve your financial goals.
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