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National Insurance is one of the most confusing tax subjects when you start a business – and even a lot later!
National Insurance (NI) is the tax that isn’t called a tax and it comes in many flavours.
Even the government gets its knickers in a twist about Class 1 National Insurance.
This article is especially for you if you have a limited company, want to upgrade to a limited company, or if you have a job.
Read on to find out:
Let’s begin with what is National Insurance.
National Insurance (NI) started as a way to fund a new thing called the state pension and state help for low paid people, the ill and less able. These are called NICs (National Insurance Contributions).
It meant if you were old and couldn’t work, were ill and couldn’t work, or disabled and couldn’t work, you didn’t starve or die from lack of basic health care.
(To get political for a moment, this was common place right into the 1950s which isn’t a very long time ago. The conditions in Call The Midwife give you a good idea.)
This is why National Insurance is a tax that isn’t called a tax because originally it was spreading the cost of care for everyone. Now we still pay for care for everyone (until government dismantles it) but NI goes into general taxation, and general taxation pay for it.
Now wake up if I caught you snoozing, this is the important bit.
There are 5 kinds of National Insurance.
Class 1a, Class 1b, Class 2, Class 3 and Class 4. Class 2 is for sole traders. Class 3 are voluntary contributions. Class 4 is for self-employed profits and the employed.
Class 1 is National Insurance for jobs. Class 1a is for employers to pay. Class 1b is for employees.
Limited company top tip: You’ll pay both. (If you don’t fancy that, pay attention to the last section).
This is paid by employers to the government for every employee.
There is a threshold and a lot of part time, low paid jobs come under the threshold. That’s how some people who have worked all their lives discover they don’t have a contributions record for state pension and benefits.
It’s also paid on job ‘perks’. HMRC calls them Benefits-In-Kind (aka BIKs). This may seem a bit unfair but it’s to stop employers reducing salary they pay NICs on and giving their staff nice things like company cars and gym memberships, that otherwise wouldn’t be taxed.
Limited company top tip: Don’t do accidental BIKs and avoid unexpected tax. (For help, that’s what coaching is for :))
This is paid by employees to the government.
There is a threshold and yes, same issues as with Class 1a.
If you have a limited company and draw a salary, unless you arrange getting paid in a particular way, you’ll be paying Class 1a and Class 1b as you are both employer and employee.
There are ways to avoid this, but it needs to be done carefully so it’s legal. Read the last section carefully.
You really want to know?
Pack your braincells and have a look at HMRC’s thresholds and rates table.
(Don’t say I didn’t warn you and I bear no responsibility if they change the link location yet again).
The short answer is, it depends.
What you need to know:
Class 1 National Insurance payments are the gold standard for state entitlements. Because we live in a world where we have one full paid job for life. Ahem.
You pay HMRC (direct debit, online banking, cheque, BACS, etc) as an employer and you pay HMRC as an employee.
Your employer pays it.
Which leads me onto how can you avoid paying it and still get credit to state pension and benefits?
This is where the Chancellor gets his M&S finest in a twist.
You pay as part of your salary and that’s that.
It’s a good idea to know what National Insurance Contributions you have built up though. Read What Is Class 3 National Insurance? for what to do.
This is where it gets fun.
It is standard practice with owner-run limited companies (that’ll be you) to have a payment arrangement called minimum salary/dividends.
What you do:
This is a standard arrangement.
However, it is important to satisfy the legal requirements. You can’t just take what you want when you want.
You’ll need to have a payroll and to manage your personal budget differently. Plus a bunch of paperwork (which usually someone other than you does, yippee!). It’s a big change – and worth it 🙂
(I can help you plan, understand and adjust, whether it’s before you start a limited company or while you have already have one).
This solution only works if your personal allowance isn’t taken elsewhere (job, pension etc), although it just means you take your profits a different way.
There can also be good reasons why you may decide to take a larger salary and pay more tax – if you want a mortgage in the next 3 years for example.
See, simples. Now it’s just the rest of it to understand 🙂
If you need support with understanding all this limited company business, what’s right for you and a safe space to ask as many silly questions as you want, have a look at my Limited Company packages. I can also create an individual package just for you.