20 Sep Anticipated Profits
For a dividend to be payable the company must have sufficient retained profits to pay the dividend. If the company is loss making, there are no retained profits, meaning that company cannot pay dividends. However, funds can be extracted by means of a salary or bonus or extracted by other means (such as rent, pension contributions, etc.). Paying a salary or bonus will incur a NIC charge on the director if the amount paid exceeds the earnings threshold, and a NIC charge will fall on the company if the associated employer’s NIC is not covered by the NIC employment allowance (£2,000 for 2015/16).
Where the company anticipates making profits another option is for the director to have a loan from the company in anticipation of a future dividend, clearing the balance on the loan account by paying a dividend when the company is in profit.
However, a benefit in kind charge may arise in relation to the loan if the amount outstanding exceeds £10,000 at any point during the tax year. Further, if the loan account is still overdrawn nine months after the end of the accounting period and the company is close, corporation tax at the rate of 25% of the balance of the loan outstanding must be paid.
At 31 March 2014 OPQ Ltd, a family company, has a negative balance sheet. The lack of retained profits means that it is not possible to pay a dividend.
Bill, the director, holds all the ordinary shares in the company. His wife and son hold A class shares.
During the following year, Bill takes out a director’s loan of £30,000 to allow him to meet living expenses. The accounts for the year to 31 March 2015 are prepared in May 2015 and show a healthy profit. The company declares a dividend of £40,000 in respect of the ordinary shares which is credited to Bill’s loan account, clearing the overdrawn balance.
A benefit in kind tax charge is payable by the director on the benefit of the loan and the company must pay Class 1A NICs on the amount charged to tax.
By using the director’s loan account rather than paying a salary it is possible to save tax and National Insurance, suffering only the benefits in kind charge on the loan and the associated Class 1A NICs.