Last December in his Pre-Budget Report the Chancellor announced plans to introduce measures in his spring 2004 Budget to “ensure that the right amount of tax is paid by owner managers of small incorporated businesses on the profits extracted from their company”.
Although no details were given most of us expected this to mean a tax or national insurance on dividends paid by small companies. The route taken by the government, although not welcome, has thankfully not been as bad as most people expected. What has happened is that with effect from 1 April 2004 a minimum rate of corporation tax of 19% is applied to the profits a company pays as dividend to non company shareholders, in general this means individuals.
The changes only affect companies with taxable profits below £50,000. Those with profits above this level will be unaffected because they pay corporation tax at a rate of at least 19% on their profits anyway. Whether those profits are paid as a dividend or retained in the company will continue to have no bearing on the corporation tax liability.
Those companies affected will see an increase in their corporation tax liability but there will be no impact at all on an individuals personal tax liability when a dividend is received.
For companies with taxable profits below £50,000 it is clear that the rate of corporation tax will now differ according to whether the profits are retained or paid out as a dividend.
The companies most affected are those with profits under £10,000, as these are subject to the nil starting rate for corporation tax, and extract the monies from the business by means of a dividend. These will see their corporation tax increase by 19% of the dividend so if the whole £10,000 was extracted this way the corporation tax liability would increase from nil to £1,900. Companies with profits between £10,000 and £50,000 would also see their rate increase on a scale varying from 19% to nil.
Has this removed the incentive to incorporate? Not entirely as there can still be tax advantages to incorporating a small business. The non tax factors also need to be taken into account, particularly for clients who need to limit their liability.
Taking everything into account the new regime does not make incorporation unattractive except perhaps for the very small business with profit levels of say £10,000 where the only reason in the past for incorporation was to take advantage of the nil rate of corporation tax.
If you would like to discuss whether incorporation is sensible for your business or if you are already a limited company and would like to know what impact the new regime will have on the tax your company will pay why not contact us using the contact section of the site. We will be delighted to help.
Clive Jones – Clifford Towers, Chartered Accountants
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