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How do National Insurance contributions affect your pay structure?

17th August 2016

Article written by:

iContract

In last week’s post, we covered a few different scenarios of salary dividends combinations. 

Here we are going to focus on National Insurance (NI) contributions and see how they affect your final tax calculations. 

If you are an employee of a company on PAYE, both the employer and you – the employee – need to pay National Insurance contributions. Dividends, on the other hand, are not subject to NI contributions. 

So as an employee of your company, you also need to pay National Insurance and you should deduct this from your pay cheque before salaries are paid. 

Any employee earning more than the primary threshold of £672 per month or £8,064 per year is obliged to pay NI contributions. A slightly higher secondary threshold of £676 per month – or £8,112 per year – is used as a starting point for employers to pay their National Insurance contributions. 

NI contributions are paid by employers but the majority comes from the employee’s earnings, and is paid through direct salary deductions. The employer pays 13.8% of the total income above the secondary threshold level, while 12% of the total income above the primary threshold is paid by employees through direct salary deductions. 

However, as a contractor who owns 100% of your company and only has yourself as the PAYE salary-earner, it does not make much difference who pays the bill (employer or employee).

National Insurance contributions are capped at an upper earning limit of £43,008. Any salary above £43,008 is not subject to National Insurance contributions. 

Now, as in last week’s post, let’s look at John’s income again using the above example. 

Scenario 1 

John takes out a salary of £11,000. 

National Insurance contributions paid by John = (£11,000 – £ 8,064) x 12% = £352. 

National Insurance contribution paid by John’s company = (£11,000 – £ 8,112) x 13.8% = £399. 

Therefore, John’s company collects £352 from John and pays a total of £399.

For John as a single contractor with a limited company structure, his total costs are £399.

His total tax bill including NI contributions is £4,300 + £399 = £4,699.

Scenario 2 

John takes out a salary of £43,000.

National Insurance contribution paid by John = (£43,000 – £ 8,064) x 12% = £4,192. 

National Insurance contribution paid by John’s company = (£43,000 – £ 8,112) x 13.8% = £4,815. 

His total tax bill including National Insurance contributions is £7,050 + £4,815 = £11,865. 

Therefore, when we add National Insurance contributions into the tax equation, taking out dividends is much more cost effective than salary. 

Scenario 3 

The salary is £11,000 again, so the National Insurance contribution is £398.54. 

The total tax bill including NI contributions is £2,025 + 399 = £2,424. 

Most self-employed people pay National Insurance through Self Assessment.

Some self-employed people don’t pay National Insurance through Self Assessment, but may want to pay voluntary contributions

These include:

  • examiners, moderators, invigilators and people who set exam questions
  • people who run businesses involving land or property
  • religious ministers who don’t receive a salary or stipend
  • people who make investments for themselves or others – but not as a business and without getting a fee or commission

However, for majority of contractors, we are liable to pay National Insurance on our salary through self-assessment. Therefore. It’s not difficult to see taking out a low salary and high dividends while keeping your total income at £43,000 is still the ultimate combination. 

Again the exact combination depends on your business expenditures and your corporate tax. Always check with your accountant if you are not sure!

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