Salary vs dividends: the most tax-efficient way to pay yourself in 2026/27
For most limited company directors, the answer isn’t salary or dividends — it’s both, in the right proportions. But with dividend tax rates up and NI thresholds frozen, getting that split right matters more than ever. Here’s how we think about it.
One of the first questions every new limited company director asks is: how should I actually pay myself? The salary vs dividends question is central to making your company structure work for you, and in 2026/27 the answer has shifted enough that advice from three or four years ago could cost you money.
The short version: most director-shareholders in the basic rate band are still better off taking a low salary topped up with dividends. But the margin has narrowed. Dividend tax rates have risen, the dividend allowance has shrunk to just £500, and income tax thresholds are frozen until 2031 — meaning more income is quietly pushed into higher bands every year. The optimal split now depends more on your individual profit level, your other income, and whether you’re a sole director or splitting dividends with a spouse.
Below, we walk through the current numbers and the reasoning behind the strategies we most commonly recommend.
Why the 2026/27 tax year changes things
The traditional director’s playbook — take a token salary, draw everything else as dividends — was built on a world where dividend tax rates were very low and NI was the main cost to avoid. That world has changed meaningfully.
From April 2026, dividend tax rates stand at 10.75% for basic rate taxpayers, 35.75% for higher rate taxpayers, and 39.35% for those in the additional rate band. The annual dividend allowance — the amount you can receive tax-free before those rates kick in — is now just £500. As recently as 2018/19 it was £2,000, so that erosion is significant for director-shareholders drawing a meaningful income.
At the same time, employer National Insurance is now 15% on salaries above £5,000 per year — a rate that rose from April 2025. And with all income tax thresholds frozen until 2031, ‘fiscal drag’ is gradually pulling more directors into the higher rate band simply through modest pay rises or growing profits.
None of this makes dividends bad. It just means the maths require more careful attention than they did in 2020. A strategy that felt obviously right three years ago may no longer be optimal today.
Setting your salary: the three common levels
Most director-shareholders choose one of three salary levels, each with a different logic.
£5,000 per year
Taking a salary at or just below the secondary NI threshold (£5,000 for 2026/27) means the company pays no employer National Insurance at all. Employee NI is also nil at this level. The downside is that this salary doesn’t reach the Lower Earnings Limit, so it may not count as a qualifying year for State Pension purposes — worth checking if you’re conscious of your State Pension entitlement.
£6,500 per year
Sitting just above the Lower Earnings Limit but below the employer NI threshold, a salary around £6,500 can count as a qualifying State Pension year at no NI cost to the company. This is a popular middle ground.
£12,570 per year
Equal to the personal allowance, this approach maximises the salary drawn before income tax applies, while avoiding employee NI entirely (because employee NI only bites above £12,570). The company does pay employer NI on the portion above £5,000 — roughly £1,135 at current rates — but that employer NI is itself a deductible business expense, which softens the cost. For many directors, this remains the most efficient salary level, particularly where the corporation tax saving on the additional salary outweighs the employer NI liability.
Which of these three is right for you depends on your overall income picture and whether you have other qualifying NI years already banked.
Dividends haven’t stopped being tax-efficient — but the days of drawing everything as a dividend without running the numbers are over. The margin is narrower now, and the paperwork still has to be right.
Drawing dividends on top: what the numbers look like
Once you’ve set your salary, dividends fill the gap up to the income level you want. Dividends are paid from post-corporation-tax profits, so there’s no NI on them — that remains their key advantage over additional salary.
In 2026/27, the personal allowance is £12,570. Any dividends that fall within the unused personal allowance are effectively tax-free. Beyond that, the £500 dividend allowance covers the next slice. So a director taking a salary of £12,570 and then drawing dividends will pay 10.75% on dividends received once both allowances are used up — assuming they stay within the basic rate band (income up to £50,270).
For comparison, drawing the same income as salary above £12,570 would attract 20% income tax plus 8% employee NI plus 15% employer NI. Even with the corporation tax deduction factored in, extra salary above the personal allowance is considerably more expensive than dividends for most directors in the basic rate band.
The picture changes at higher incomes. Once your total income exceeds £50,270, dividends are taxed at 35.75% — and at that point, the gap between dividends and salary narrows substantially. Some analysis (including commentary on AccountingWEB) has suggested that for very high profit levels, a higher salary can occasionally be more efficient. It is genuinely case-by-case above around £50,000 of personal income.
When splitting dividends with a spouse can help
If your spouse or civil partner is a genuine shareholder in the company, paying dividends on their shares can use up their personal allowance and basic rate band — potentially tax-free if they have little or no other income. This is a legitimate and widely used strategy, but it does come with conditions.
The shares must be genuinely held by your spouse and carry real rights — HMRC’s settlements legislation (Arctic Systems and beyond) means arrangements where the income clearly belongs economically to you but is diverted to a spouse can be challenged. In practice, this approach works best when your spouse is genuinely involved in the business or when the shareholding structure was set up properly from the outset.
If you’re considering bringing a family member in as a shareholder partly for tax reasons, it’s worth taking advice before you do it rather than after. We see directors who set up these arrangements informally and then find themselves in a difficult position if HMRC looks closely.
Done correctly, though, using a spouse’s allowances can save several thousand pounds a year in tax — making the conversation worth having.
The one thing that trips directors up
The most common mistake we see isn’t choosing the wrong salary level — it’s drawing dividends without checking whether the company actually has distributable reserves to support them. A dividend is only legal if the company has sufficient retained profits after tax. Drawing money out on the assumption that the year’s profits will cover it, before the accounts are finalised, can result in an unlawful dividend — which creates a director’s loan account liability and potential tax complications.
The practical fix is straightforward: keep your bookkeeping up to date throughout the year so you have a clear picture of retained profits before you take a dividend. If you’re using Xero and your accounts are current, this takes minutes to check. If your records are months behind, you’re essentially flying blind.
There’s also the question of paperwork. Each dividend payment should be supported by a dividend voucher and a board minute, even for single-director companies. It sounds bureaucratic, but it’s the evidence that distinguishes a legitimate dividend from a director’s loan if HMRC ever asks.
Getting the salary vs dividends split right is one thing — making sure the dividends are properly documented is the other half of the job.
Our take
For most basic rate directors in 2026/27, the most tax-efficient approach remains a salary around £12,570 (or £6,500 if avoiding employer NI entirely is the priority), topped up with dividends to the desired income level. The maths still stack up in favour of dividends over additional salary for most people in the basic rate band — but not by the margin it once was, and the right answer shifts meaningfully once you move into higher rate territory or have a more complex income picture.
What we’d say to any director is this: don’t set a salary and dividend strategy once and leave it running on autopilot for five years. The rules have moved, and they’ll likely move again. If you’re not sure whether your current split is still optimal — or you’ve never really sat down to work it out properly — this is exactly the kind of conversation we have with clients regularly. It doesn’t take long and it often surfaces a meaningful saving.
Frequently asked questions
What is the most tax-efficient salary for a director in 2026/27?
For most directors, £12,570 per year maximises income below the personal allowance without triggering employee NI, though the company pays employer NI above £5,000. If you want to avoid all NI costs, a salary of £5,000 achieves that — but may not count as a qualifying year for State Pension. The right level depends on your individual circumstances.
How much dividend can I take before paying tax in 2026/27?
The dividend allowance for 2026/27 is £500. Any dividends within your unused personal allowance are also tax-free. So a director taking a £12,570 salary with no other income can receive up to £500 in dividends at 0% before the 10.75% basic rate dividend tax applies. Beyond that, the rate depends on which income tax band you fall into.
Are dividends still more tax-efficient than salary in 2026?
For most directors in the basic rate band, yes — dividends attract no NI and are taxed at 10.75%, compared to income tax plus NI on additional salary. But the gap has narrowed following recent rate rises. Above £50,270 of total income, dividends are taxed at 35.75%, and at that level the comparison with salary becomes far less clear-cut.
Can my company pay dividends if it isn’t profitable?
No. Dividends can only be paid from distributable reserves — retained profits after tax. Paying dividends without sufficient reserves creates an unlawful distribution and can result in the amount being treated as a director’s loan. Keeping your bookkeeping current throughout the year is the simplest way to avoid this problem.
Do I need to complete a Self Assessment if I take dividends?
Yes. If your dividends exceed £500 in a tax year — which they almost certainly will for a director drawing a meaningful income — you need to complete a Self Assessment tax return to declare them and pay any dividend tax due. Your accountant should include these in your return automatically as part of the year-end process.