Contractors' Questions: Is paying dividends monthly an HMRC-risk?
Contractor’s Question: In a change to how I pay myself as a limited company director, my company secretary has recommended that for me to get a better grasp of my finances and spend less money willy-nilly, I should take out a regular amount in dividends every month.
This monthly extraction would factor-in the costs I need to account for and not much more. Currently, I just tend to pay myself a small tax-efficient, outside IR35 monthly salary and top up my personal bank account up with a dividend as and when, usually on a quarterly basis.
While I’m up for saving money and being more measured in my spending, the suggestion in this ContractorUK article is that overly regular dividends could spark HMRC’s interest. Does a contractor accountant agree?
Expert’s Answer: It’s important to think about this question as two questions independent of one another.
The first question should really be about how much you should take from your company in dividends, with the second question being more about the regularity of dividend income from a PSC and whether more regular dividends has any bearing on IR35 status.
What’s in director pay?
So the first question -- how much income should I take from my company?
Before thinking about how much to take from your company, it’s important to understand how you take money from your company. A director of a PSC typically takes a modest salary and tops up their income with dividends.
Director Remuneration (salary) is a cost to the business before tax is calculated meaning that the company will benefit from Corporation Tax relief on any salary paid to you. This remuneration is typically set at or around the threshold at which NIC payments become due, so it is both tax efficient and in line with that remuneration being for your services as a director (as opposed to being paid as an employee).
What is a dividend?
Part of the answer to this first question, then, is that you can only take as much income as your company can afford to distribute. Not taking dividends that exceed the company’s retained profit will mean that your company can afford to meet its obligations to HMRC and any other creditors.
You should also consider what income you need to pay your bills and live your life. Do you have other sources of income and does anyone else in your family contribute financially? This should be considered alongside the tax liabilities arising from taking income.
It’s likely (depending on your tax code) that any income from Directors Remuneration will be tax-free as this will be lower than your Personal Allowance. (The PA is the amount you can earn each year before paying income tax and is currently set at £12,570 for the 20/21 tax year).
Other income, dividend tax rates and carving up
You’ll also need to think about any other income you have, such as from other employment during the year, pension income, or even rental properties, and the effect that might have on how much of your basic rate band is available for dividend income.
Once you’ve worked that out then it’s important to note that the first £2,000 of dividend income is tax-free and that any remaining dividend income within the basic rate band will be taxed at 7.5%, rising to 32.5% where your total income exceeds the basic rate threshold.
If you can work all of that out and are comfortable that your company has enough retained profits to distribute enough income to meet your requirements, then you can carve that income up into monthly, quarterly, biannual or annual increments.
The IR35-dividend (re)mix
So I’ve now kind of answered your second question too! To paraphrase it if I may, ‘Does the regularity of dividend income from a PSC impact HMRC’s view of my status under IR35?’
The answer here is not really. It is typical for the owner/director of a PSC to take dividend income in regular increments and that decision is made by the director. It is part of a director’s responsibility to decide how and when to distribute the company’s profits and while HMRC may make not like the regular distribution approach, it really isn’t up to HMRC to decide how to run your company.
Further consider, IR35 status is determined by a completely different set of factors including Control, Personal Service and Mutuality of Obligations. There are many other factors that do have a bearing on IR35 status but with the Intermediaries legislation to parody Jay-Z, “I got 99 tests but how I get paid by my company ain’t one!”
The expert was Patrick Gribben, head of client services at Intouch Accounting.