One of the common questions I come across with my clients is about paying themselves – how to do it and how much. As expected, where tax is involved there are a number of components to consider when deciding. Let’s start with a company.
The simplest way to pay yourself out of a company is through payroll. This is straightforward both for your company and you personally. Your personal income tax is mostly looked after as you are in the PAYG system. You also earn super which can be easily paid with the other super payments. The key decision to make is how much you should pay yourself. Your tax accountant or advisor will be able to give you the right range of salary so you are still being tax efficient:
You want to make sure you aren’t paying more tax as an individual than your company is currently paying e.g. 26%
A quick, basic example to illustrate this is someone earning $100k will pay approx 26.5% in tax, including medicare levy. This is higher than the company tax rate; so you would be better off taking a smaller salary to be more tax efficient and take the gap as dividends (see below.
If you take money out of the business, without putting it through payroll, e.g. bank transfers, these become directors’ loans and complicate things at tax time – there is “interest” payable to your business and it in turn becomes part of your personal income tax return.
One final example is taking dividends out of the business. These will have been declared as part of your year end wrap up and have already been taxed at 26% (small company rate). You need to be profitable to declare them and again, these dividends go into your personal bucket for income tax (albeit with credits for the tax already paid by your company).
If you’re a sole trader, things are similar to a company – you can put yourself on the payroll or you can take the cash. But the payments don’t attract that interest charge. However, as a sole trader; your tax rate will move up as your taxable income (profit) increases (where as a company’s tax rate is fixed at 26% for small companies). So, if your taxable profit is $100k, you may pay more tax on that than you would if you were a company. This might trigger a decision to look into becoming a company.
There are lots of implications from an organisational point of view to consider too – what are the ramifications of taking random payments – can you forecast this cashflow adequately. If you don’t pay yourself anything, are your numbers really giving you the full picture? Can you pay yourself a bonus if things are going super well?
As always, its vital to talk these thing through with your advisor so you are making informed decisions and don’t get a massive shock come tax time.
The examples used are indicative only.