Many small company owners draw dividends rather than taking a salary because of the tax advantages. After all, with a dividend there is no employers nor employees National Insurance, and your income tax rate will be lower.
All too often I meet owners who have decided to draw dividends in the mistaken belief that their business is making a profit. If their bookkeeping was up to date, they would have known that much of this money would eventually be due to HMRC, whether as VAT or Corporation Tax, and probably their suppliers too.
And the problem is that if your business hasn’t made a profit, you can’t declare a dividend, so these drawings will have to incur hefty and unexpected tax liabilities. In one painful case a friend of mine got caught out by this and received a £30,000 tax bill which he could only meet by selling his van and equipment, finishing his business.
We have sadly come across this many times where small business owners have been drawing dividends, often for several years, only to find the profits weren’t there and had to be reclassified by their accountant as salary, incurring large income tax and national insurance liabilities which they have struggled to pay.
To get a clear understanding of the profitability of your business, the first step is to get your books up to date so that you can clearly see who owes you money (your creditors) and your debtors (those who owe you), and use this to have a cashflow forecast for the coming months.
Included in the forecast should be money expected to come into the business as well as money you will have to pay out (this should include big payments such as your quarterly VAT, corporation tax, national insurance and payments to suppliers) and money you want to set aside for future investments.
We strongly advise updating and reviewing your cashflow forecast monthly so you know well in advance when money could be tight, letting you adjust your spending and draw dividends accordingly.
Having invoices piled up in the corner unprocessed is the main reason people don’t have visibility of their true cash position.
Ozlop helps people in this position by making it easy to sort out the paperwork – simply photo the invoices and they will be automatically uploaded from your smartphone to the cloud for processing.
So if you have pile of invoices and receipts growing ominously, simply give me a call and we can help sort them out easily and quickly so you can pay yourself the right amount of dividend and not worry about it bringing unwanted future tax demands.
David Vine – small business specialist and Managing Director at Ozlop.