Whether you're a director of a business or a limited company - here's how to pay yourself first in business and why.
Owning a business. It comes with a lot more admin, paperwork and long hours behind the scenes than most people realise. Particularly when it comes to managing your business' finances.
Between paying employees and freelancers, processing vendor or supplier invoices, subscriptions to software tools and digital platforms, even just keeping the lights on, it's easy to forget about number one.
In fact, if you're a business founder-owner, it might even be tempting to put your salary on the bottom of the To Do List. Here's how to pay yourself first - and why it matters.
As a business owner or a director in a limited company, you can be paid a salary directly from your business. The first and most significant point to make here? Receiving a salary from the company means you must:
Doing this will protect you in a number of different ways. But when it comes to your salary, it will also simplify the PAYE process, meaning you can draw dividends from the business, and likely find the most tax efficient way to pay yourself.
Paying yourself a consistent salary from your business is perhaps the most common way owners and directors receive their income. You can select the amount - provided it's approved by any other decision-makers, like shareholders or a board of directors - but if your salary is relatively high, it could cost you in income tax. And, as it's classified as a business expenditure, it can also impact the profits and the Corporation tax of the company itself.
The solution? Many owners and directors choose to pay themselves a salary below or low on the income tax and National Insurance Contribution thresholds to avoid paying higher rates. They then "top up" this amount in dividends.
Profits made by your company can be distributed to shareholders. These payments are known as dividends. Many owners and directors choose to use dividends to increase their income amount in a way that is tax efficient and compliant with HMRC.
Dividends must be distributed after Corporation tax is accounted for to ensure the company is financially stable and responsible, but unlike salaries, there's no need to pay National Insurance Contributions against dividends. Making them an attractive and simple solution to the pay question.
The less popular, less efficient solution. It’s entirely possible to pay yourself through solely a salary or solely dividends if you choose to – but the same rules for both apply. There’s also the very important question of whether you can reasonably live on that amount, but it is still an option available to you.
The main benefits of taking a low salary and no dividends being that profits made by the business can be reinvested to help build it further and potentially increase its value. You might also avoid income tax or NI contributions.
The main benefits of taking no salary and only dividends being that you have cheaper rates of income tax and no NI contributions to pay, plus there’s no need to run a payroll or PAYE scheme for yourself.
Being in a partnership or self-employed works slightly differently. Firstly, it's important to note that you (and if relevant, your partner) are entitled to keep all monies made without conditions. The caveat is, of course, ensuring you're able to pay your tax and any other costs associated with your trade. After that, how you manage your money is up to you, or you and your partner(s).
This is known as 'drawings' rather than a salary, and while you might choose to pay yourself once a month to mimic the structure of a traditional salary, there's nothing to say you can't pay yourself on a weekly, bi-monthly or even an ad-hoc basis if your personal needs can accommodate it.
If you'd like to find out more about getting paid as a sole trader, we have a blog dedicated to it. Read more here.
From a financial management standpoint, ensuring that you, as a business owner or director, are paid first will help ensure your company is benefitting from the most tax efficient process it possibly can. This will help accelerate your business growth in the long-term, and help coordinate your financial pipeline - something which will be hugely beneficial when it comes to paying other costs.
From a personal standpoint, it's true to say that many founder-owners do find they need to take a pay reduction when the business is starting out. But it's important to ensure that this is a short-term solution to the overall goal of your venture and you as a professional. It might be easy to slip into a consistently low income, but you need to make sure you're protecting you and your future as much as your business.