Dividends vs Pension Contributions



Withdrawing profits from your company in the form of Dividends is one of the most Tax efficient methods of taking money from your limited company. Other methods of withdrawal, such as salaries or benefits in kind, are less efficient once you have exceeded the Personal Tax Allowance of £12,500 (to 5th April 2021).

There are three main methods in withdrawing cash from a Ltd company, Salary, Dividends and Pension Contribution. I have run through these methods briefly below. The question is which method of profit extraction is best?


Salaries are subject to income tax 20/40%, national insurance class 1 at 12% and national insurance class 1s at 13.8%. To be able to pay a salary your company need to have set up a registered PAYE scheme with HMRC and submit a monthly FPS on or before the payment of salary is made.

The upside to salaries is the gross salary and class 1s national insurance is deductible for corporation tax purposes so you must examine the net tax effect to decide if this is the right profit extraction method.


Tax on Dividends is taxed at the basic rate of 8.75% followed by income at the higher rate of 33.75%. With the first 2,000 Dividends tax free. These rates are much lower than income tax rates which are taxed through salary at 20% and 40% retrospectively, there is also no national insurance on a dividend from a company.

But there is no corporation tax deduction for a dividend, unlike a salary.

To pay a dividend, the board of the company should meet, access the profitability of the company and if there is a distributable reserve a dividend may be declared. Meeting notes and the decision-making materials should be retained by the company.

Pension Contributions

Registered pension schemes can accept contributions from you personally or direct from your company on your behalf. The latter, known as employer contributions, is what you would pay if your run your own Ltd company.

A pension contribution paid by a Ltd company to a registered pension fund will not be subject to income tax or national insurance. It is also deductible against corporation tax.

The disadvantages of pension contributions, compared to dividends, is that you must wait until you are 55 to withdraw the funds.



The standard income tax planning is to draw a salary to either the income tax threshold or the national insurance secondary threshold to avoid all national insurance. Then declare dividends to the higher rate band of income tax.

If you have excess cash after drawing to the higher rate threshold, then this leaves cash for investments?

Dividend – investment in yourself in the now, but not tax efficient.

Pension contribution – investment for your retirement, tax efficient

Salary/Benefits – Generally not considered tax efficient, but this could change in 22/23 with higher corporation tax rates and higher dividend rates.

Tax efficient benefits – there are various benefits that are tax efficient, workplace phone, electric cars these can be investments into yourself and tax efficient.

Investment into your business- if the investment is handled well could see your profits grow

Investment into property or other – its possible to invest into property through a business but specialist advice is needed.

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