As a Director of a Limited Company, you can pay yourself a salary, take dividends and contribute to a pension. Or you don’t have you pay yourself at all. Each of these have different guidelines and tax liability can vary with each option.
On the other hand, all Sole Traders’ earnings are considered to be their income. Tax is paid on the total income minus expenses at the end of the year. A Sole Trader’s income is sometimes called drawings and they don’t have the option to take a salary or dividends from their business. That being said, a Sole Trader can be an employer and pay someone else a salary, check out this guide on hiring your first employee.
Sole Trader Or Limited Company?
If you are considering a switch from Sole Trader to Limited Company, look at the amount of income you are earning. It may be a good time to incorporate your business if your income reaches the higher level of income tax threshold. In 2020, the income threshold for lower rate of tax of 20% for a single person is €35,300. Limited Companies have more scope for tax planning and therefore Directors can save on their tax liability.
Of course, there are pros and cons to Sole Traders and Limited Companies and in this guide, we’ll show you the different ways Directors can pay themselves from their company.
An accountant can help you plan your income and give you advice on how to pay yourself in the most tax efficient way. Personal circumstances (for example, single, married or widowed) has an effect on your tax credit and tax relief eligibility. Talk to our Client Services Team to get a quote for our accountancy services today.
Differences between salary and dividends
- A salary refers to a fixed annual payment to a Director at regular intervals. For example, weekly or monthly payments
- If you can't afford to pay yourself regularly, you still need to report monthly to Revenue
- You can save on your tax liability by claiming tax credits and reliefs on your salary
- Director salaries are subject to taxes at the source like employees (PAYE, PRSI, and USC)
- Non-resident Directors can be paid a salary and there may be a double taxation agreement with your country of residence which means you may be entitled to a tax refund
- Companies get a Corporation Tax deduction on Directors salaries
- Dividends are paid to shareholders of companies
- It is very common in small companies for the Director and shareholder to be the same person
- Dividends are paid from the after-tax profits of the company to its shareholders
- There are no employers' PRSI payments on dividends
- Companies can't pay out dividends if the company is making a loss
- The company will need to deduct 20% Dividend Withholding Tax (DWT) on the dividend and pay this amount to Revenue
- When Directors file their income tax return, dividends may need to be taxed at the higher tax rate (40%) depending on their income level
- Non-resident shareholders do not pay DWT in Ireland if they complete a form V2A and need to check how dividends are taxed in your country of residence
Applying tax credits to Director's salary
There can be two types of Directors in Irish Limited Companies: proprietary Directors and non-proprietary Directors.
In general, a Director is treated as an employee of the company and their salary works the same way as an employee’s salary. They are taxed under the PAYE system and taxed at the source (i.e. the company takes the tax before it reaches your bank account).
If you would like specific information based on your personal circumstances, get in touch with our Client Services Team who can send you a quotation for our accountancy and compliance services today.
Proprietary Directors can avail of earned tax credit and employee tax credit.
This type of Director is also known as ‘controlling Director’. These individuals own more than 15% of the share capital of the company.
Non-proprietary Directors can avail of employee tax credit.
This type of Director is also known as the ‘non-controlling Director’. These Directors own less than 15% of the share capital of the company.
Non-proprietary Directors avail of employee tax credit only.
How to use these tax credits
If you are eligible to claim the earned income credit and employee tax credit, it’s important to note that the sum of these credit cannot exceed €1,650.
There are other conditions that apply which is why it is best you speak to a professional about your personal circumstance. The earned income credit and/or employee tax credit may not be the only credits and reliefs you are eligible to claim. Speaking to a professional accountant can help you save on your tax liability.
Salary for non-resident Directors
You do not have to be resident in Ireland to be a Director of an Irish Limited Company. Non-resident Directors are also entitled to receive a salary but it’s important to note they still need to pay Irish tax on the income.
This applies regardless of your tax residence or where your Director duties are carried out. In other words, you need to pay tax to Irish Revenue on any salary you receive from an Irish Limited Company.
Speaking to an accountant will help you determine how you should pay your tax liability when you are not resident in the state. Contact our Client Services Team to receive a quote for our accountancy services today.
Director's pension contributions
Directors who own at least 5% of a company's share capital have very attractive pension funding options.
There are two types of pension contributions you can make:
1) Employer contributions
The company can contribute to your pension on your behalf. In this case, the company is allowed to record the pension contribution as a company expense. This will help reduce the company's Corporation Tax liability.
2) Personal contributions
Directors that personally contribute to their pension can claim tax relief of either 20% or 40%, depending on their personal circumstances. Tax reliefs are usually claimed at the end of the tax tear on a Director's Tax Return. Contributing to your pension is a very attractive and efficient way to reduce your personal income tax liability.
Paying dividends to Directors
Divendends are paid with any profits that are left once tax has been paid. This is an attractive alternative for non-proprietary Directors. Normally a company has to pay employer’s PRSI tax when giving non-proprietary Directors a salary. There is no employer’s PRSI tax if non-resident Directors take a dividend.
On the other hand, dividends cannot be deducted against a company’s tax liability. Salaries are considered business expenses and therefore can reduce the amount of Corporation Tax the company pays at the end of the year.
As mentioned, your company needs to make a profit to be able to pay dividends. As a Startup, it may be difficult to pay dividends in the first few years. This being said, it’s best to speak to an accountant who understand the the specific details of your company.
Shareholder resident in Ireland
Dividend Withholding Tax (DWT)
Companies need to deduct Dividend Withholding Tax (DWT) on any dividend payments made to shareholders living in Ireland.
DWT is charged at 25% (2020) and the amount is paid to Irish Revenue.
Shareholders receive a net dividend amount (i.e dividend after-tax) and a tax credit for DWT. This credit is deducted against the shareholder's personal income tax liability.
Company A pays Sarah a gross dividend of €1,000 because the company had €10,000 profit (after expenses and taxation) at the end of the year. Dividends are taxed at 25%, therefore Sarah receives €750 of the dividend.
Company A withholds €250 tax and pays this to Revenue on behalf of the shareholder. Company A must pay all the withheld tax to Revenue on the 14th day of the month following when the dividend was paid. Because Sarah received the dividend on 10/01, the company must pay the DWT amount to Revenue by 14/02.
Paying tax at the end of the year
It's important to note that the 25% DWT may not be all the tax you pay when receiving dividends.
Directors file their income tax return, (Form 11 or Form 12), with their total income for the previous year. All income (including dividends) is taxed at either 20% or 40% depending on your standard tax bracket.
This means that you could effectively pay the same amount of tax on your dividends as you would just receiving a salary.
Shareholder not resident in Ireland
In general, there is no DWT due for non-resident shareholders.
Non-resident shareholders need to file a form V2A to get an exemption from DWT. The form V2A needs to be completed by the shareholder and certified by a tax authority of the country in which the shareholder is resident.
Dividends and any other income from your Irish company will be taxed in the country you are resident. Therefore it is also important to speak to an accountant in your resident country.
Filing Directors tax return
Proprietary Directors are legally obliged to file an Irish Income Tax Return each year. As mentioned, when a Director takes a salary, it is taxed at the source through payroll, similar to an employee. However, they are still required to file a Directors tax return even though they may have already paid some of their tax.
If the Director has no income, through salary, dividends or otherwise, they are still required to file a tax return. This is sometimes called a Nil Return.
In general, non-proprietary Directors are exempt from filing an Income Tax Return. Check your obligations with an accountant who has cross-border expertise.
The importance of having an accountant
Paying yourself from your Limited Company can be a difficult task – especially if you don’t know the rules, what taxes are applicable and the processes involved with each way.
Having an accountant ensures you are taking money out of your company in the most tax-efficient way.
Talk to our Client Services Team on +353 01 905 9364 or email us on firstname.lastname@example.org.