Limited Company Tax Guide for Contractors

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• Operating your business through your own limited company is the most tax efficient trading option

• The taxes imposed by HMRC fall into two categories:

- Personal tax- Company tax

Personal Tax

• As a limited company director, tax on your personal income is payable in three ways;-

- Income tax on your Salary- Income tax on your Dividends- National insurance

Income Tax on Salary

• As a permanent employee earning more than £10,000 per annum you are liable for income tax on earnings over £10,000 via the PAYE (pay as you earn) system

• As a Director of a limited company, your tax liability is no longer confined to the PAYE system; you are also obliged to file a Self-Assessment Tax Return annually

• Income tax rates for limited company directors are the same as they are for employees and the same income thresholds apply

• Youcan legitimately pay yourself a small salary, equating to no more than the national insurance threshold, (currently £7,956 pa) and take the rest in dividends, thus avoiding income tax or national insurance on your salary

Income Tax on Dividends

• As a company shareholder, you will also pay income tax on the dividends that you pay yourself. However, dividend income is not subject to national insurance (NI), providing a significant tax benefit to limited company owners

• Dividends attract a 10% tax credit, this is to account for the fact that they are paid out of company profits

Income Tax on Dividends

Dividend income

taxation bands% Tax rate applied

Actual % tax liability after

10% dividend

tax credit

Dividend income up to £31,865 10% 0%

Dividend income between £31,865 and £150,000

32.5% 22.5%

Dividend income above the higher rate tax limit

37.5% 27.5%

Company Tax

• Company tax also falls into two categories. These are:

1. Corporation tax2. Value Added Tax

Corporation Tax

• All companies pay Corporation Tax (CT) on their annual profits

• The current rate, where annual profits are £300,000 or less, is 20% with larger companies paying 21%; with effect from 1st April 2015, all companies will pay 20%

• Your accountant will register your company for Corporation Tax with HMRC, once your company is registered with Companies House and will prepare your Annual Accounts each year

• They will then submit these to HMRC together with a Company Tax Return

Corporation Tax

• Some expenses often seen in company accounts are not allowed for tax purposes

• These include business entertainment and depreciation on assets

• There are also some tax allowances and reliefs that do not feature in a company’s accounts and need to be deducted from the profit prior to tax being charged

• These include capital allowances and group relief

Corporation Tax

• As a limited company, the deadlines for filing your company tax return and paying what you owe are as follows;-

1. You must pay Corporation Tax within nine months and 1 day of the end of your company's accounting period

2. You must file your Corporation Tax Return within 12 months of the end of your company's accounting period

3. You must file your accounts with Companies House within 12 months of the end of your company's accounting period

Value Added Tax

• The vast majority of contractor companies are also registered for Value Added Tax (VAT)

• If you are VAT registered then VAT is applied to all services you provide to your contracting clients, and you can reclaim VAT on purchases you make via your company. The standard rate for VAT (which you charge to your client) is 20%

• If your annual turnover is £79,000 or more, you must register for VAT. However, it can be beneficial to register even if you are not obliged to do so as you could benefit financially

The Flat Rate VAT Scheme

• The flat rate VAT scheme is an incentive provided by the Government to small businesses to help simplify taxes

• You charge VAT on your invoices at the prevailing rate but pay it back to HM Revenue and Customs at a lower rate, thus allowing you to benefit financially from the difference in rates

• Rates differ depending on your profession/trade but for IT contractors the rate is 13.5% in your first year (1% discount applied for first year of trading) and 14.5% in subsequent years

For more detailed information on Limited Company Taxationfor Contractors please visit Freestyle Accounting