The Lowdown: Salary and Dividends in a Nutshell

If you're running your own limited company (often called a Personal Service Company or PSC), you've got a couple of main ways to take money out. First, you can pay yourself a director's salary. Then, from any profits your company makes (after paying that salary and other business costs, and importantly, after Corporation Tax), you can pay yourself dividends as a shareholder.

The big appeal? A small, tax-efficient salary often means less Income Tax and National Insurance upfront. Dividends, while taxed differently, don't attract National Insurance at all, which can be a decent saving. For more on general tax strategies, our guide on Tax Planning for Contractors is a good starting point.

How IR35 Status Changes the Game

• Outside IR35: Good news! If your contracts are genuinely Outside IR35, the salary/dividend mix is still very much on the table. It’s often the cornerstone of tax planning for PSCs. The trick is usually to take a relatively small salary – often up to the point where you start paying National Insurance, or perhaps up to your Personal Allowance – and then take further profits as dividends.
• Inside IR35: This is where it gets tricky. If your contract is deemed Inside IR35 (meaning you're taxed like an employee for that work), then all the income from *that specific contract* has to go through PAYE (Pay As You Earn). This means Income Tax and National Insurance are deducted at source, pretty much wiping out the benefits of dividends for that slice of your income. Most contractors in this boat prefer using an umbrella company for Inside IR35 work to keep things simple and compliant.

Dividend Allowances and Tax Rates for 2025/2026

Okay, let's talk numbers for the 2025/2026 tax year. Every year, you get a 'Dividend Allowance'. For 2025/26, this is £500. This means the first £500 of dividends you receive are tax-free, no matter what other income you have. It's a small perk, but every little helps!

Once you go over that £500, dividends are taxed at different rates depending on your overall income band (for the 2025/2026 tax year):

• Basic Rate taxpayers: 8.75% on dividends
• Higher Rate taxpayers: 33.75% on dividends
• Additional Rate taxpayers: 39.35% on dividends

Remember, your salary and any other income you have will use up your Personal Allowance and fill up the lower tax bands first, before your dividends are looked at. Want to see how this might pan out for you? Our Dividend Tax Calculator can give you a rough idea.

So, Is It Still Worth It for Outside IR35 Contractors?

In a word: often, yes! Even though the tax-free Dividend Allowance has shrunk over the years and dividend tax rates have nudged up, for most contractors operating Outside IR35, taking a small salary and the rest as dividends from their limited company is still generally more tax-efficient than taking all their income as a larger salary.

Why? Because dividends aren't subject to National Insurance contributions (neither employee's nor employer's), and Corporation Tax (which your company pays on its profits before dividends can be taken) might still result in a lower overall tax bill compared to the combined Income Tax and full National Insurance whack you'd pay on a large salary.

Things to Keep in Mind for 2025 and Beyond

• IR35 Status is Key: This whole strategy hinges on your contracts being genuinely Outside IR35. Get this wrong, and HMRC could come knocking for back taxes.
• Stay Updated: Tax rules love to change! Keep an ear out for Budget announcements regarding Corporation Tax, dividend tax rates, and those all-important allowances.
• Expenses Matter: Don't forget, claiming all your legitimate business expenses reduces your company's Corporation Tax bill, which means more profit left over for you to potentially take as dividends.
• Talk to an Expert: Seriously, a good contractor accountant is worth their weight in gold. They can help you figure out the most tax-efficient structure and payment strategy for your specific situation.