Summer Budget impact on Contractor companies

Published: 05 Aug 2015

Updated: 05 Aug 2015

Written by Ray Coman  

A new dividend tax rate was announced on 8 July 2015 in the Chancellor’s Budget.  The implication is that no tax will be payable on the first £5,000 of dividends.  Thereafter, income tax will be charged on dividends at a rate of 7.5% for basic rate taxpayers, 32.5% for higher rate taxpayers and 38.1% for additional tax payers.

The implications for Contractors have been summarised in the article on 2016-17 Contractor companies.  The introduction of the new dividend tax will significantly reduce any tax savings currently enjoyed by operating via a company.  From 6 April 2016, contractors will probably pay more income tax on dividends (in addition to the corporation tax.)

The saving in national insurance (NI) will remain. However the NI saving of being a company may marginally outweigh the extra income tax (when compared with being a sole trader.)  As a broad measure, once profits exceed £65,000, if all profits are withdrawn as dividends there will no longer be an overall tax benefit to being a company.

Advantages of continuing via a company

• Unlike employees, businesses can register for VAT. Particularly for flat rate scheme users, VAT registration is a considerable tax benefit, and unchanged by the Budget.
• The paymaster will save in employer’s national insurance compared with hiring a contractor as an employee.  This is a considerable saving equal to 13.8% on earnings (above about £8,000 a year.)  There may be other non-tax benefits to the contract arrangement.
• Paying a shareholder on a lower rate of tax (such as a spouse) will continue to have a tax benefit.

Outlook over the next five years

• Corporation tax is reducing to 19% in 2017 and to 18% in 2020. This will reduce the overall tax payable by company owners compared with employees and sole traders.
• Tax rules change frequently. This guidance applies to the 2016-17 tax year.

Tax planning

• The new rules take effect on 6 April 2016. Therefore, the tax benefit of having a company up to this point will remain.
• Consider taking as much dividend as possible before 6 April 2016.
• Consider dissolving the company and withdrawing accumulated profits as capital gain on disposal of the business.

Dissolving the company

It is possible to extend an accounting period up to 18 months.  Accounting costs could be saved by extending the final period of account.

There is also the option of extracting some accumulated profit as capital on dissolving the company.  Up to £25,000 can be withdrawn without a requirement to involve an insolvency practitioner.