Withdrawing business profits tax-efficiently

Background

Ben is a director of his own limited liability company. He contacted us in order to understand how to withdraw profits from his business tax-efficiently.

Ben had only been paying himself a salary since setting up the company a couple of years ago. However, the company had started to make decent profits and Ben wanted to understand what else he could do.

What did we do?

We recommended that Ben should consider reducing his salary and instead use dividends, seeing as his company is now making profits. If he paid himself a salary of £680 per month, at this level his salary would be below the taxable threshold for National Insurance; which would save National Insurance for both the business and him personally. More importantly, however, Ben would also qualify for a State Pension.

We suggested that Ben should instead use dividends to make up the rest of his remuneration. If his total earnings are below £46,000, then his dividends would be taxed at 7.5%.

Next, we recommended that Ben replace his existing Life Insurance policy with a relevant life policy; under these type of plans, the Life Insurance premium can be paid by the company, yet any claim is paid tax-free to his beneficiaries. The monthly premium would then become a tax-deductible business expense, saving Ben the cost of paying the premium personally.

For any more income Ben would like to withdraw from his business, we suggested that he might want to consider a dividend and Venture Capital Trust (VCT) strategy. Any dividends over and above £46,000 would be taxed at 32.5%, which is significantly more than 7.5%. However, if this money was then invested into a VCT, Ben would be entitled to claim a 30% tax credit. This would mean that these dividends would effectively suffer a 2.5% dividend tax, however this comes at the expense of having to retain the VCT investment for a minimum of five years.

The results

We suggested to Ben that he might want to use this strategy every year. Then, in five years’ time, his first VCT will mature.

Each year another VCT will mature, providing additional income at a very low rate of tax.