If you have chosen to incorporate your e-commerce business, you may be puzzled by the best way to pay yourself. Should you use a salary, dividends, or a combination of the two? Let’s look at the most efficient way to pay yourself as a Director.
There are three main ways to receive remuneration from an incorporated e-commerce business. You can set a salaried amount, payable monthly, receive dividends when the company is financially sound enough to distribute them or use a combination of the two.
Salaries have many upsides, but the biggest downside is the time for payroll processing. You can outsource your payroll if you don’t feel like taking on the work yourself. Additionally, if you are above the basic tax bracket, salaries can be an inefficient way to be paid, incurring a more substantial tax bill.
If you have other income, you will want to discuss your position with an e-commerce accountant before committing to a salary.
If you have no other earnings, a salary of £736.67 per month (£8,840 per annum) is the 2021/22 secondary earning limit for National Insurance. A salary of this amount won’t require you to pay employee’s or employer’s NI and will be tax-free. In addition, the salary is tax-deductible for the business, providing a saving of around £1,700 in Corporation Tax each year.
It’s vital to nurture your future, and a salary at this level will count towards your State pension qualifying years. If you decide not to be paid this amount, you should opt for voluntary contributions to ensure your pension is protected.
Dividends must be paid from profit and retained earnings, so if your e-commerce business isn’t making a significant profit, you may end up with less than you had hoped for. The annual dividend allowance is only £2,000, after which you will have to pay taxes.
Once you exceed your dividend allowance, you will only pay 7.5% tax if you are on a basic tax rate, or 32.5% if you are on a higher tax rate.
The most efficient way to pay yourself as a Director
The most tax-efficient way to pay yourself from your e-commerce business is to use up your tax-free salary allowance, followed by your dividend allowance. Once both have been exhausted, you will pay the least amount of tax through dividends although, there are additional advantages to paying up to the basic rate band in salaried income.
A word of warning
Make sure you leave sufficient cash in your business; don’t strip it dry through dividends. Use the cash flow features in Xero to predict your cash flow needs in the coming months and act conservatively. We always recommend discussing your dividend amounts with your accountant.
If you would like to discuss the most tax-efficient way to pay yourself from your e-commerce business or anything else related to e-commerce accounting, we would love to chat with you. Get in touch with the team and let’s grow your e-commerce business to its true potential.
The best time to act is now.