Director Salary & Dividends: Strategy for 2026–27. Part 4
(Continuation of: Director Salary & Dividends: Strategy for 2026–27)
"The cheapest tax option is not always the lowest salary."
This is one of the most important lessons we share with company directors.
Many business owners believe the goal is simply to take the smallest possible salary and extract everything else as dividends. While this approach can sometimes work, it ignores the bigger picture.
Your salary is not just about tax. It affects your National Insurance record, your company's Corporation Tax position, your ability to obtain finance, and sometimes even how professional lenders view your income.
At Peter Hodgson & Co, when we review director remuneration strategies with clients, we rarely start with the question:
"What is the lowest salary I can pay myself?"
Instead, we ask:
"What salary level gives the best overall outcome for my company and my personal finances?"
That small change in thinking can make a significant difference.
The Personal Allowance is one of the most valuable tax-free benefits available to individuals in the UK.
However, using it efficiently requires planning.
A common mistake is assuming that every director should simply pay themselves up to the full Personal Allowance each year. In reality, this may not always be the best approach.
For example, imagine two business owners:
Director A runs a profitable limited company and has no other income. Paying a salary that uses part of their Personal Allowance may be sensible because it reduces company profits and therefore Corporation Tax.
Director B has a second job earning £45,000 per year. Paying themselves the same salary through their company could push more income into higher tax rates unnecessarily.
The circumstances are completely different.
The tax-efficient salary for one director may be inefficient for another.
This is why professional advice is valuable. A quick online search might tell you a recommended salary figure, but it cannot see your complete financial picture.
One of the key advantages of paying yourself a salary is that it is generally deductible for Corporation Tax purposes.
In simple terms, your company receives tax relief on the salary cost, reducing the amount of profit subject to Corporation Tax.
Let's look at a basic example.
A limited company generates £100,000 profit before paying the director.
If the company pays a deductible salary, the taxable profit reduces.
The company pays less Corporation Tax.
The director receives personal income through PAYE.
However, this benefit needs to be balanced against National Insurance and Income Tax consequences.
Salary planning is about finding the point where the combined company and personal tax position is most efficient.
Not just reducing one tax while accidentally increasing another.
Employer National Insurance is one of the areas that can catch directors out.
A salary increase might appear attractive because the company receives Corporation Tax relief. But once Employer National Insurance becomes payable, the additional cost can reduce the benefit.
For example, a director may decide:
"I'll increase my salary by £10,000 because my company gets tax relief."
That sounds reasonable. But the calculation does not end there.
You also need to consider:
Sometimes the extra salary is worthwhile. Sometimes dividends provide a better outcome. The correct answer depends on the numbers.
Your director salary should not be something you set once and forget.
Tax rules change. Your business changes. Your personal circumstances change.
A salary strategy that worked perfectly when your company earned £50,000 may not be appropriate when profits increase to £200,000.
I remember speaking with a director of a growing IT consultancy in Kent. When the company started, he paid himself a small salary and took occasional dividends. It worked well.
Three years later, the business had grown significantly, but the remuneration structure had stayed exactly the same.
After reviewing his position, we adjusted his approach. We introduced a more structured salary and dividend plan, considered pension contributions, and improved the timing of dividend payments.
The biggest improvement was not simply the tax saving.
It was the confidence that his finances were being managed proactively.
That is something many business owners underestimate.
Dividends are one of the most popular ways for company directors to extract profits from their businesses.
And for good reason. They are flexible, usually taxed at lower rates than salary, and do not attract National Insurance. But there are rules.
You cannot simply transfer money from your company bank account to your personal account and call it a dividend. There must be a proper process.
The dividend allowance allows individuals to receive a certain amount of dividend income each tax year before paying dividend tax.
However, it is important to understand one thing:
The dividend allowance does not mean dividends are completely tax-free.
It simply means that dividends within the allowance are taxed at 0%.
They still count towards your income tax bands.
For example, if your salary already uses your basic rate band, dividend income may immediately fall into a higher dividend tax rate.
This is why dividend planning cannot be done in isolation.
Many directors structure their income by using:
The order matters.
A common strategy is:
However, every shareholder's circumstances are different.
A director with a spouse who owns shares in the company may have additional planning opportunities.
A director with significant rental income may need a completely different approach.
Dividend tax rates depend on your wider income.
The tax system looks at your total income, not just your dividends.
Your salary, rental income, pension income and other earnings all affect where your dividends fall.
For example:
A contractor earning £40,000 through their company may have significant room within lower tax bands.
A business owner already earning £120,000 from another source may find dividends taxed at higher rates.
The same dividend payment can therefore create very different tax outcomes for different people.
Family businesses often overlook opportunities involving spouses.
Where a spouse genuinely owns shares in the company, dividends can potentially be shared between both individuals.
This may help use:
However, there are important legal considerations.
Shares should not simply be transferred without proper advice, particularly where companies have complex structures or significant value.
At Peter Hodgson & Co, we regularly help family businesses review ownership structures before making changes.
Planning first is always better than correcting mistakes later.
This is probably the most common question asked by company directors.
The answer? Usually, but not always.
Dividends often provide a more tax-efficient way to extract profits from a limited company.
But salary still has important benefits. The best strategy is normally a combination.
Let's compare the two approaches.
Taking everything as salary:
Advantages:
Disadvantages:
Taking everything as dividends:
Advantages:
Disadvantages:
The right answer depends on the overall calculation.
Salary may be preferable when:
For example, a newly established business might benefit from a salary because profits are modest and the Corporation Tax saving is valuable.
Dividends often become attractive when:
Many contractors and consultants operate this way.
They receive a predictable monthly salary, then review available profits and declare dividends at sensible intervals.
Over the years, we have seen several recurring mistakes.
A company bank account is not a personal wallet.
Money taken without proper treatment can create unexpected tax issues.
Dividends must come from available profits.
If they do not, they may be treated differently for tax purposes.
Your friend's accountant may recommend one approach.
Your circumstances may require another.
Selling your company, applying for finance, investing in property, or building pension savings may all influence the best remuneration strategy.
Your salary and dividend decisions should be reviewed as part of your wider business strategy.
A good remuneration plan should:
✓ Keep unnecessary tax to a minimum.
✓ Protect your long-term financial position.
✓ Support your company's growth.
✓ Remain compliant with HMRC rules.
At Peter Hodgson & Co, we work with limited companies, contractors and business owners across Kent and the wider South East, helping them make informed decisions about tax, profits and personal income.
The best time to review your director remuneration strategy is before you take money out of the company — not after.
Including dividend tax examples, legal requirements for declaring dividends, common HMRC pitfalls, and practical strategies for business owners.
Disclaimer:
The content of this blog is for general informational purposes only and should not be considered professional tax advice. The information is correct at the time of publishing but may change following future UK budget announcements or updates to HMRC guidance. Individual circumstances vary, and tax obligations can differ based on your personal situation. We strongly recommend consulting with us or a qualified tax professional to receive advice tailored to your specific needs.
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