Shareholder Salaries and PAYE Explained
How do shareholder salaries and paye usually work?
In a typical small company scenario, the profit the company derives is usually split between being retained by the company and being distributed to the shareholders. The final decision is typically being made at the end of the year once the final results are known. Allocating a shareholder salary has been a very convenient way in improving the taxpayer’s overall annual position.
Prior to 1 April 2017, a shareholder employee was not able to draw a PAYE salary, and allocate further profit to the shareholder salary without PAYE being deducted. This led to the difficulty in situations where the shareholder would draw the profit out of the business in the form of cash drawings during the year, and sometimes end up with an overdrawn shareholders current account at year end, along with related adverse tax consequences.
Since 1 April 2017, shareholder employees are permitted to take both a PAYE salary during the year and a “lump sum top up” at year end. This is a more sensible approach that directly deals with the problem of an overdrawn shareholders current account.
It is permitted that annual shareholder salaries are credited to a shareholders current account at the first day of the year, thus minimising mandatory interest charges, or worse, deemed dividends, in relation to overdrawn shareholders current accounts.
How can shareholders manage their provisional tax and residual tax payments efficiently?
As a shareholder employee taking a PAYE salary during the year, your tax is paid monthly relative to the amount of the salary received. Any year end top-up will be subject to provisional tax. However, the provisional tax can be minimised if the tax is efficiently covered by the PAYE on the salary during the year. Also, significant provisional tax payments could be made throughout the year, in two or three instalments, and, if the annual taxable income is reasonably estimated, this would leave a small terminal tax to be paid at year end, when the final tax is settled.
Do shareholders get charged use of money interest by the IRD?
As a shareholder you will still have to carefully estimate your annual income for provisional tax purposes. If you underpay the provisional tax, IRD may charge you use of money interest (UOMI), as per current Inland Revenue requirements.
A shareholder would however be permitted to reduce the salary as long as it is not tax avoidance, which would transpire if the remuneration provided to the shareholder employee is deemed to be less than market rate remuneration for the services rendered.
Can a Shareholder reduce their income by offsetting company losses?
If the company makes a loss as a result of your PAYE salary, you will not be able to reduce your personal taxable income by the amount of the loss. The loss will be trapped in the company until it can be set off against profits derived in future years.
The only exception would be if the company happens to be a Look Through Company (LTC) and, from 1 April 2019, if the loss is not derived from the business of residential rentals.
This material has been prepared for information purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your normal source of expert advice before acting on anything or contact ABA Chartered Accountants if we can assist you in any way.
If you need further advice on how to structure your salary and paye, please get in touch. We are accountancy experts and will be able to guide and advise you.