Contractor owned limited companies pay different types of tax to the employees, directors and shareholders of the business.
In this article, we consider:
Company corporation tax, whether a contractor or not, is paid once a year, 9 months after the end of an accounting period. It is ordinarily paid at 19% of company profit – profit is defined as the difference between the business’s income and the expenses over the period (with expenses for contractors being heavily regulated).
As taxation is vitally important to get right, for contractor limited companies and their directors, it is of vital importance that bookkeeping software is used and updated regularly. Additionally the accountants engaged by the company have access to this information and documentation. The job of an accountant is not only to accurately record and classify the incomings and outgoings of a business but to reduce the liability of tax that a company has to pay to HMRC legally as far as possible, and while with contractors this is often easier from an invoice point of view, when it comes to expenses it can get confusing so sharing as much information as possible promptly is always a good idea.
It is a company director’s responsibility to ensure that corporation tax is paid on time and in full to the bank account shown in correspondence from HMRC and using the same reference number. If payment in full is not possible by the date due, a company director should enquire about a “time to pay” arrangement with HMRC – an accountant’s advice should be sought prior to such a request.
If a contractor’s limited company makes a loss, it can carry that loss forward to the following year as long as the loss and the profit were incurred performing the same trade. For example, if a company lost £20,000 in one year and it made £30,000 in the following year, corporation tax on £10,000 would be payable as the loss in the previous year would be offset in the following year.
Companies can carry losses forward for many years however continuing year on year losses will make a company and its directors more likely to become the target of an HMRC investigation.
If a company files its return with HMRC one day late, there is a £100 fine. Another £100 fine is levied after 3 months. After 6 months, HMRC will estimate the size of the corporation tax bill it expects and issue a fine of 10% of that amount in addition to the 2 £100 fines issued to date. After 12 months, another 10% fine is issued.
A company cannot appeal against the fines based upon the estimated corporation tax. If a company files late for three years in a row, the £100 penalties on day 1 and month 3 are automatically increased to £500.
Like with continued losses, late filing will make a company and its directors far more likely to become the subject of tax investigations.
During any calendar month, a contractor’s limited company will pay its directors and staff salaries via the Pay As Your Earn (PAYE) Real Time Information service provided by HMRC. All employers must run a PAYE scheme.
When salary payments are made to staff and directors on the PAYE system, an employer has to hold those payments on behalf of HMRC. It then must pay all of the withheld monies to HMRC using an Employer Code by the 22ndof the following month.
Dividend payments which can top up a contractors earnings are not subject to PAYE deductions and are treated as self-employed income, which is taxed via an annual Self-Assessment (with the tax due paid directly to HMRC by the contractor).
This is a form of payroll tax, although it is most commonly known as Employer’s National Insurance contributions. It is an additional tax paid by the limited company based upon the sum of money paid to staff each month. In most cases, the amount is 13.8% of the pre-tax wage paid to a member of staff.
So, if a staff member was paid £2,500 in wages that month before tax and Employee’s National Insurance, Employer’s National Insurance would be 13.8% on top of the £2,500 (£345). At time of writing, this payment needs to be made for all staff members who are paid more than £162.01 a week (£702.01 a month).
Employer’s National Insurance must be paid to HMRC by the 22ndof the month following the payment of wages to staff and it must be as part of the same payment made to HRMC for income tax and Employee’s National Insurance.
For contractor limited companies operating within the construction sector as either a contractor or a sub-contractor, they may need to register as such with HMRC and enrol onto the Construction Industry Scheme (CIS).
HMRC defines a contractor as a company which subcontracts other to do work for it. A subcontractor is defined as an organisation which performs the duties set out in a contract for other companies. A contractor limited company can be registered as a contractor, a subcontractor, or both.
More information is provided on the HMRC website here.
For most VAT-registered contractor limited companies, VAT is paid quarterly no later than one month and seven days after the end of the VAT quarter. For most companies, the average VAT payment is around 3-5 weeks of their VAT inclusive turnover so provision within cash flow should be made for it.
Different payment deadlines are provided for the VAT Annual Accounting scheme.
There is a system of penalties for companies which fail to submit their contactor VAT return and/or pay their VAT on time. Surcharges range from 2% of VAT due to 30% of VAT due.
If a contractor limited company can not meet its VAT payment on time and in full, its director should ask the company’s accountant to help it arrange a “time to pay” agreement with HMRC.
There may be advantages to subscribing for the contractor flat rate VAT scheme. Read more about this here (link back to Responsibilities to HMRC page).
A contractor may borrow money from his or her limited company. However, if the loan is not paid back to the company within 9 months of an accounting year end, Section 455 tax will apply. The limited company will then have to pay 32.5% of the value of the outstanding loan in tax to HMRC, declaring it on the corporation tax form.
The 32.5% will be paid back to the company by HMRC once the director’s loan account has been settled. However, it can only be reclaimed on corporation tax forms meaning that it may be months or years before the company has the opportunity to reclaim the money.
There are also benefit-in-kind rules to consider. If the value of all loans given to a director rises above £10,000, it must be recorded on a P11d form. This is a complex area of taxation that requires the advice of an experienced accountant.
Director’s loans are usually a good way for contractors to extract company profits (as dividends) before actually ratifying these dividends officially. It can be a method by which contractors “level” out their income throughout the year, but beware, contractors can get into trouble if they don’t meet the profit level required to make the dividend cover the loan payments.
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