Limited companies are separate legal entities from their owners and directors. However, ‘limited liability’ does not mean ‘zero accountability’. In fact, setting up a limited company comes with a host of complex responsibilities. One of which is making sure your tax is paid correctly.
As a business owner or director, you must understand and meet your tax obligations to avoid paying unnecessary charges or the threat of potential liquidation. But exactly how much tax do you pay as a limited company?
In this handy guide, we explain the tax obligations of a limited company and how an accountant can help you to meet yours.
Below is a quick reminder of the new corporation tax rates from the 1st of April this year.
What is a limited company?
A limited company is a type of business structure that limits the liability of its shareholders. In other words, limited companies are separate legal entities from the individuals who own them. This important distinction means that owners and directors are not personally liable for any losses that the business makes.
Limited companies must be registered with Companies House and have at least one director and shareholder. Additionally, limited companies are subject to strict accounting and filing regulations that are monitored by HM Revenue & Customs (HMRC) and differ from the tax returns filed by sole traders and partnerships.
How much tax do I pay as a limited company?
A limited company will have various tax obligations depending on its size, structure and profits. Some of the main tax liabilities that a limited company might face include the following:
Accurate company accounts should be kept, and a company tax return must be filed with HMRC by the end of the chosen 12-month accounting period. For taxable profits up to £1.5 million, any tax owing must be paid no later than nine months and one day after the end of the accounting period. Beyond that figure, companies pay in instalments.
Limited companies are also subject to Corporation Tax, a tax on profits derived from trading, income from investments or any other sources, and sale of investments or assets. Limited company owners must register for Corporation Tax when setting up and within three months of starting to trade. The main rate of Corporation Tax increased from 19% to 25% as of April 2023.
However, this main rate only applies to businesses with taxable profits above £250,000. Businesses with taxable profits of less than £50,000 will continue to be taxed at 19% – heralding the reintroduction of the small profit rate. For those businesses whose profits fall between the lower and upper limits, marginal relief will apply.
To prevent businesses from attempting to reduce their Corporation Tax liabilities by splitting their activities between so-called ‘associated companies’, new – rather complex – regulations dictate that the upper and lower profit thresholds are essentially divided equally between all the associated companies. According to HMRC, “a company is an associated company of another company if one has control of the other, or both are under the control of the same person or persons.”
So, let’s say you have two limited companies under your control. In this case, for each associated company, the lower limit would reduce from £50,000 to £25,000, and the upper limit would reduce from £250,000 to £125,000. There are some notable exemptions. Namely, dormant companies, passive holding companies, and companies that are owned by associates but are not deemed to exhibit ‘substantial commercial interdependence’.
Proving an absence of substantial commercial interdependence is not straightforward (we could write a whole separate blog on the topic!). Essentially, the companies mustn’t be:
- Financially interdependent – For example, they mustn’t lend to each other.
- Economically interdependent – For instance, they mustn’t share the same customers.
- Organisationally interdependent – They mustn’t share staff, premises or equipment.
As you can imagine, one or more of these associations are particularly common in families with multiple businesses. This is why it’s essential to speak to one of our tax experts to gain clarity and advice about your position and how best to structure your businesses to ensure your tax liabilities are kept to a minimum.
Here is a video I made discussing what is an associated company and how changes to corporation tax will affect these businesses.
Value-added Tax (VAT)
Value-added Tax, better known as VAT, is the tax added to many products and services. If your limited company has an annual taxable turnover of £85,000 or more, you must become VAT-registered. You will then need to charge VAT at the standard 20% rate on all VAT-able products and services, and provide HMRC with quarterly VAT returns.
Please note that the annual threshold is calculated on a rolling twelve-month basis, so does not go back to zero at the end of your financial year
Read our handy guide on VAT Basics – What you need to know for more information.
Employers’ National Insurance Contributions
If your limited company has employees, you must pay National Insurance Contributions (NICs) – known as ‘Secondary Class 1 NICs’ – on wages and various benefits, such as company cars. The government has fixed the level at which employers start to pay Class 1 Secondary NICs at £9,100 from 1 April 2023 until April 2028.
Some employers may be able to reduce their annual National Insurance liability by up to £5,000 by claiming Employment allowance against these Class 1 NICs.
Income Tax and National Insurance
Whilst a limited company has to pay Corporation Tax, any income taken by directors could be liable for income tax and National Insurance contributions. You can take an income from a limited company through a salary, dividends or a combination of both.
Anything over and above the current Personal Allowance of £12,570 is subject to income tax at the relevant rate. That includes dividends (a portion of profits paid per share), albeit at lower income tax rates than those applied to salaries. Dividends are taxed at 8.75% for basic-rate earners, 33.75% for higher-rate, and 39.35% for additional-rate.
Dividends can however only be distributed after corporation tax has been accounted for, so the company must have enough reserves available for shareholders to be remunerated in this way.
Currently, a tax-free allowance of £1,000 applies to dividends, which is 50% lower than in 2022. Furthermore, this tax relief is set to halve again in 2024 to just £500.
How can a limited company legally minimise its tax obligations?
Tax relief is available in several guises, including Capital Allowances, R&D Tax Credits, deferring dividends, and offsetting losses. As a director, you can minimise your tax burden by paying yourself mainly in dividends.
However, because dividends can only be paid on profits, most directors pay themselves using a combination of dividends and a salary. So, making the most of tax-free thresholds and keeping your income within the lowest tax band possible will help to reduce your tax liabilities.
The most effective way for a limited company to legally minimise its corporation tax liabilities remains to make significant employer pension contributions to Company Directors. As pension contributions attract Corporation Tax relief, this is the best way for a small business owner to extract wealth from their profitable limited company.
From April 2023 the pension annual allowance increased from £40,000 to £60,000 per individual, and the lifetime allowance was also abolished from this date. This means that a highly profitable limited company could see corporation tax savings of up to £15,000 per Director per annum. More if there is the opportunity to carry forward unused pension contributions for previous years.
What are the potential consequences of not meeting your tax obligations?
There are several financial ramifications for failing to comply with your tax obligations. Firstly, HMRC can issue a range of penalty charges for the late filing of Corporation Tax returns, ranging from £100 to 10% of the unpaid tax.
Secondly, there are heavy penalties for inaccuracies or failing to file a return, depending on whether HMRC deems the offence careless, deliberate or concealed.
Thirdly, late Corporation Tax payments are subject to interest. The rate of interest is tied to the current Bank of England base rate, which increased again on 31 May 2023 to 7% on the late payments of Corporation Tax
Ultimately, any ongoing failure to pay your tax bill could lead to the seizure of assets to cover any debts or, in the worst-case scenario, the winding up of your company.
What are common taxation mistakes, and how can they be avoided?
Some of the most common mistakes that limited companies make when it comes to Corporation Tax include:
- Incorrect tax returns
- Late submission of tax returns
- Miscalculated tax bills
- Late payment of tax bills
All of these issues come down to human error. However, they can be easily avoided by enlisting the services of a qualified accountant, who can ensure your accounts and tax returns are accurately made up and filed on time.
Below is a video where I look at the new corporation tax regime in the UK from 1 April 2023.
What support is available?
If you are struggling to pay your Corporation Tax bill or have noticed a mistake, you should contact HMRC as soon as possible to flag the problem. For help with paying your bill, you may be able to apply for a Time to Pay (TTP) arrangement that allows you to pay off your tax bill in instalments.
IN Accountancy is here to support your limited company accounting processes to ensure you never have to go down this route.
Contact IN Accountancy today
How much tax limited companies pay varies based on several factors, including the size and structure of the business. As an owner or director of a limited company, it is important to ensure that your tax obligations are fully met, with accounts and tax returns filed on time and bills paid by the relevant deadline.
With hefty charges and interest levied on tax return discrepancies and late payments, it pays to have an accountant who can help you remain compliant, profitable and tax-efficient. IN Accountancy can minimise the hassle and stress of complex tax and financial areas, so you can invest valuable time in growing and developing your business.