What Is the Best Way to Pay Yourself as a Director?
Answer: Take a low salary (£6,500) plus dividends. This is the most tax-efficient extraction method for most UK limited company directors.
As a director, you have several options for extracting money from your business. Understanding each method's tax implications is crucial for maximising your take-home pay.
The Four Main Payment Methods
1. Salary (PAYE)
Regular payments through payroll, subject to Income Tax and National Insurance. Tax-deductible for the company.
2. Dividends
Distributions of profit to shareholders. No NI, but taxed at dividend rates. Paid from post-tax profits.
3. Pension Contributions
Employer contributions are tax-free and NI-free. Limited to £60,000 annual allowance (2025/26).
4. Expenses & Benefits
Legitimate business expenses reimbursed tax-free. Some benefits (company car, health insurance) are taxable.
Step 1: Set Your Salary
Your salary should be your first consideration. For most directors, the optimal salary for 2025/26 is:
Recommended: £6,500 per year
This is the Lower Earnings Limit (LEL). It ensures you qualify for state pension credits while minimising employer National Insurance. If you're eligible for Employment Allowance, £12,570 (the Personal Allowance) may be better.
How to Pay Salary
- 1. Register for PAYE – Set up as an employer with HMRC
- 2. Use payroll software – Process your salary (many free options available)
- 3. Submit RTI reports – File Full Payment Submission (FPS) with each payment
- 4. Pay any tax/NI due – Usually by the 22nd of the following month
Step 2: Take Dividends
After paying yourself a salary, dividends are typically the most tax-efficient way to extract additional profits:
Dividend Tax Rates 2025/26
| Tax Band | Rate |
|---|---|
| Tax-free dividend allowance | £500 |
| Basic rate (up to £37,700 taxable income) | 8.75% |
| Higher rate (£37,701 – £125,140) | 33.75% |
| Additional rate (over £125,140) | 39.35% |
How to Pay Dividends
- 1. Check available profits – You can only pay dividends from retained profits
- 2. Hold a directors' meeting – Declare the dividend and minute the decision
- 3. Issue dividend vouchers – Create a voucher for each shareholder
- 4. Transfer the funds – Pay from the company account to personal accounts
- 5. Report on your tax return – Declare dividends on your Self Assessment
Step 3: Consider Pension Contributions
Employer pension contributions are highly tax-efficient:
- No Corporation Tax – Contributions are a deductible business expense
- No National Insurance – Neither employer nor employee NI applies
- No Income Tax – Until you draw the pension in retirement
- 25% tax-free lump sum – Available when you access your pension
Annual Limits (2025/26)
The annual allowance is £60,000, but this may be reduced if you have high income (tapered annual allowance) or have already accessed your pension (money purchase annual allowance of £10,000).
The Optimal Extraction Strategy
For a typical basic-rate taxpayer director in 2025/26, the most tax-efficient order is:
Salary: £6,500
State pension credits, minimal employer NI (£225)
Employer Pension: Up to £60,000
Tax-free extraction, builds retirement fund
Dividends: To top of basic rate band
8.75% tax rate, no NI
Retain profits in company
19-25% CT vs 33.75% higher-rate dividend tax
Common Mistakes to Avoid
❌ Paying yourself a high salary
Salaries above £12,570 trigger employee NI at 8% and employer NI at 15%. Dividends are usually more tax-efficient.
❌ Forgetting about Corporation Tax
Dividends are paid from post-tax profits. Factor in the 19-25% CT when comparing extraction methods.
❌ Declaring illegal dividends
You can only pay dividends from retained profits. Check your accounts before declaring.
2025/26 Key Thresholds
| Threshold / Rate | Amount |
|---|---|
| Personal Allowance | £12,570 |
| Lower Earnings Limit (LEL) | £6,500 |
| Basic Rate Dividend Tax | 8.75% |
| Higher Rate Dividend Tax | 33.75% |
| Dividend Allowance | £500 |
| Pension Annual Allowance | £60,000 |
Sources
- GOV.UK: Tax on dividends
- HMRC: National Insurance rates and thresholds
- GOV.UK: Pension annual allowance
Disclaimer: This guide is for informational purposes only and does not constitute financial or tax advice. Please consult a qualified accountant for advice specific to your circumstances.