Should I Be on Payroll or Take Dividends?
If you run a limited company, deciding how to pay yourself is one of the key financial decisions you'll face. Should you take a salary through payroll? Should you rely mainly on dividends? Or is a mix of both the smartest approach?
The answer depends on tax efficiency, compliance, and your personal financial situation. Let’s explore how each option works, the pros and cons, and how most small company owners structure their income.
What’s the Difference Between Payroll and Dividends?
Payroll (Salary)
Paid as a regular wage through the company’s PAYE system.
The company must deduct Income Tax and National Insurance (both employee and employer contributions).
Treated as a business expense, reducing Corporation Tax.
Dividends
Paid to shareholders (which includes directors if they own shares).
Drawn from company profits after Corporation Tax has been paid.
Not subject to National Insurance.
Taxed at lower rates than salary, but only if the company is profitable.
Why Use Payroll (Salary)?
Qualifies for state benefits: Paying yourself a salary above the lower earnings limit builds your entitlement to the state pension and other benefits.
Reduces Corporation Tax: Salary is a deductible business expense.
Provides stable income: Salaries are consistent and predictable.
Useful for mortgages: Lenders often prefer salaried income over dividend income when assessing mortgage applications.
Downsides:
At higher salary levels, both you and the company pay National Insurance.
Income Tax applies after your personal allowance.
Why Use Dividends?
More tax-efficient: No National Insurance is due on dividends.
Lower tax rates compared to salary: After the £500 dividend allowance, dividend tax rates are lower than equivalent Income Tax bands.
Flexibility: You can choose when to pay dividends depending on profits.
Downsides:
Dividends can only be paid if the company has sufficient post-tax profits.
Not a business expense, so they don’t reduce Corporation Tax.
Irregular income — depends on company performance.
The Common Approach: A Mix of Both
Most directors adopt a combination strategy:
A low salary — usually up to the personal tax-free allowance (£12,570 for 2024/25) or sometimes even slightly less to avoid National Insurance.
Dividends to top up their income, drawn from available profits.
This method strikes a balance between minimising tax, maintaining state benefits, and keeping admin manageable.
Example Breakdown
Let’s say your company earns £60,000 in profit (before paying you).
Salary: You pay yourself £12,570. It’s covered by your personal allowance, meaning no Income Tax. There may be minimal National Insurance depending on how it’s structured. This reduces the company’s taxable profit.
Corporation Tax: The company pays Corporation Tax (typically 19% on profits).
Dividends: You then take dividends from the remaining profit. These are taxed at dividend rates:
8.75% in the basic rate band
33.75% in the higher rate
39.35% for additional rate
This tends to result in a lower overall tax burden than taking all income as salary.
Should You Only Take Dividends?
In theory, you could skip salary altogether and just take dividends — but it’s rarely advisable.
No salary means no contributions towards state pension or benefits.
You lose the opportunity to reduce Corporation Tax by not having a salary expense.
Some lenders don’t favour dividend-only income when reviewing mortgage or loan applications.
What About a High Salary Instead?
Choosing a full salary (like an employee would have) is simple — but less tax-efficient.
Both Income Tax and full National Insurance contributions apply.
The company gains a Corporation Tax reduction on salary costs.
You don’t need to worry about dividend rules or profits.
This route can make sense if you want regular, predictable income and don’t mind paying more in tax overall.
Other Considerations
Pensions: Your company can contribute directly to your pension. These payments are an allowable business expense, reducing Corporation Tax, and they aren’t taxed as salary or dividends.
Director’s Loans: If you’ve lent money to your company, repayments are tax-free.
Expenses: Valid business expenses can be reimbursed tax-free, reducing the amount you need to draw as income.
Things That Might Influence Your Decision
Business Profitability: Dividends depend on profits, while salary does not.
Cash Flow Needs: Salary is predictable; dividends are more flexible but less certain.
Future Plans: Buying a home? Lenders may prefer salary income.
Simplicity: Some people prefer the simplicity of payroll and not dealing with dividend admin.
Risk Appetite: Salary reduces risk of HMRC questioning your income structure, whereas relying entirely on dividends could attract scrutiny if incorrectly handled.
Summary
In most cases, the most tax-efficient approach for a limited company director is:
A low salary (to use the personal allowance and qualify for state benefits).
Dividends from profits to make up the rest of your income.
A high salary might suit those who value stability or have specific mortgage needs, while relying purely on dividends tends to be risky and less sustainable long-term.
The right balance depends on your profits, personal financial goals, and how much administrative hassle you want to handle.
