Profit Extraction in 2025/26

Sarah Bradford explores tax-efficient options for taking profits out of a personal or family company.

The 2025/26 tax year starts on 6 April 2025 and the clock resets as far as extracting profits from a personal or family company is concerned. With changes in the rate of secondary Class 1 National Insurance contributions and the secondary threshold, it is important to assess whether the profit extraction strategies used in 2024/25 will continue to work well in 2025/26, or whether it is time for a rethink.

Taking a small salary

Conventional wisdom advocates taking a small salary which is sufficient to ensure that the year isa qualifying year for state pension purposes. Where the recipient does not already have the 35 qualifying years needed to secure a full state pension, this is a valid consideration.

For the salary to provide a qualifying year, it must be at least equal to the lower earnings limit, which for 2025/26 is set at £6,500. As this is slightly higher than in 2024/25 (for which it was set at £6,396), where the salary was set at the minimum level to achieve this aim, a slight increase on the 2024/25 salary is in order. As long as the salary is sheltered by the personal allowance, there will be no tax to pay. As the salary is below the primary threshold (which remains at £12,570 for 2025/26), there will be no employee contributions to pay either; where earnings are between the lower earnings limit and the primary threshold, the earner is treated as having paid contributions at a notional zero rate which provides them with a qualifying year free of charge.

However, the fall in the secondary threshold means that it is now a different story as far as employer’s National Insurance is concerned. For 2025/26, the secondary threshold is reduced to £5,000 (from £9,100 for 2024/25). This means that in the absence of the Employment Allowance (unless one of the higher secondary thresholds is in point) it is no longer possible to pay a salary which is sufficient to secure a qualifying year free of employer’s National Insurance contributions. This is likely to be an issue for personal companies where the sole employee is usually a director and which do not qualify for the Employment Allowance as a result. For 2025/26, at 15% (compared to 13.8% for 2024/25), the rate of employer contributions is higher too.

For 2025/26, paying a salary of £6,500 (the minimum necessary to secure a qualifying year) will come with a secondary Class 1 bill of £225 where the Employment Allowance is not available (15% (£6,500-£5,000)).

Salary payments and employer’s National Insurance contributions are deductible in calculating the company’s profits for corporation tax purposes. This means that it can be worthwhile paying a higher salary, even if there is some employer’s National Insurance to pay.

Where the Employment Allowance is available, as may be the case in a family company, as long as the personal allowance has not been used elsewhere, it is possible to pay a salary of £12,570 (equal to the personal allowance and primary threshold) free of National Insurance and tax. Beyond this level, the combined tax (at 20%) and primary National Insurance (at 8%) hit will outweigh any corporation tax relief (at between 19% and 25%), making a salary of £12,570 the optimum salary for someone with a personal allowance of £12,570. If the personal allowance is higher (such as where a person receives the marriage allowance), the optimal salary will be higher as the corporation tax relief will outweigh the primary Class 1 National Insurance contributions payable to the extent that the salary exceeds £12,570.

In the absence of the Employment Allowance, it is still worthwhile paying a salary of £12,570 as the corporation tax relief will outweigh the employer National Insurance hit. Beyond this, where the recipient has a higher personal allowance, whether it is beneficial to pay a higher salary will depend on the rate at which the company pays corporation tax as in the absence of the Employment Allowance both primary and secondary contributions will be due once the salary exceeds £12,570.

Dividends

Conventional wisdom also dictates that once a small salary has been paid, if further profits are needed outside the company for personal use, it is more tax efficient to take them as dividends. This is because there is no National Insurance to pay on dividends and the dividend rates of tax are lower than the standard income tax rates. However, as dividends are paid from post-tax profits, it is important to remember that they have already suffered corporation tax of between 19% and 25% depending on the rate at which he company pays tax.

Paying dividends is not as straightforward as paying a salary as there are rules which must be met. A company can only pay a dividend where it has sufficient retained profits from which to pay it. Where there is more than one shareholder for a class of shares, dividends must be paid in proportion to shareholdings. However, where the company has an alphabet share structure (so each shareholder has their own class of share), dividends can be tailored to the circumstances of the shareholder to allow profits to be paid out as dividends in a tax efficient manner.

For 2025/26, all taxpayers still have a dividend allowance of £500, regardless of the rate at which they pay tax.

Paying dividends to utilise shareholders’ dividend allowances where these are not used elsewhere allows profits to be extracted without any further tax being payable. The dividend allowance acts as a zero rate band, with dividends falling within this band being taxed at a zero rate.

Once the dividend allowance has been used up, dividends are, for 2025/26, taxed at 8.75% where they fall in the basic rate band, at 33.75% where they fall in the higher rate band and at 39.35% where they fall in the additional rate band.