Limited Company Tax Free Allowance
- Adil Akhtar
- Jul 27
- 15 min read
Understanding the Myth of the Limited Company Tax-Free Allowance
Is There Really a Tax-Free Allowance for Limited Companies?
Now, let’s get straight to the heart of it: if you’re hoping for a straightforward “tax-free allowance” for your limited company, I’ve got some news. Unlike individuals who get a personal allowance of £12,570 in the 2025/26 tax year, limited companies don’t have an equivalent. If your company makes even £1 of profit, it’s subject to Corporation Tax—either 19% for profits up to £50,000 or 25% for profits above £250,000, with Marginal Relief for profits in between. This comes from the latest HMRC guidance for the financial year starting 1 April 2025. No profit threshold exists where your company can dodge tax entirely.
But don’t lose hope just yet. While there’s no blanket allowance, you can reduce your taxable profits through allowable expenses, capital allowances, and clever director payment strategies. Think of it like this: your company’s tax bill is a puzzle, and with the right pieces—like deductions and reliefs—you can shrink it significantly. Let’s break it down with some practical insights.
How Does Corporation Tax Work for Limited Companies?
So, how does the tax system hit your limited company? Corporation Tax is levied on your company’s profits after allowable expenses and deductions. For the 2025/26 tax year, the rates are:
● Small Profits Rate: 19% for profits up to £50,000.
● Main Rate: 25% for profits over £250,000.
● Marginal Relief: For profits between £50,000 and £250,000, a sliding scale
reduces the effective tax rate, calculated using the formula: Fraction x (Upper Limit – Augmented Profits) x Taxable Total Profits / Augmented Profits.
Here’s a quick table to show how it works for a single company with no associated companies:
Profit Level (£) | Effective Tax Rate | Tax Payable (£) |
30,000 | 19% | 5,700 |
100,000 | ~20.5% (with Marginal Relief) | ~20,500 |
300,000 | 25% | 75,000 |
Source: GOV.UK Corporation Tax Rates
Now, consider this: if your company has “associated companies” (e.g., you own multiple businesses), these thresholds are divided by the number of active companies, making tax planning trickier. For example, two associated companies split the £50,000 threshold to £25,000 each. Always check with an accountant to confirm your company structure.
Can You Use Your Personal Allowance as a Director?
None of us wants to pay more tax than necessary, right? As a limited company director, you can leverage your personal allowance (£12,570 for 2025/26) to reduce your personal tax bill. This allowance applies to income you take as a salary from the company, not to the company’s profits. If your only income is a £12,570 salary from your company, you pay no income tax, and the company deducts this salary as an allowable expense, reducing its Corporation Tax.
Here’s where it gets smart. By paying yourself a salary up to the personal allowance, you save the company 19% Corporation Tax (or more, depending on profits) on that amount. For example, a £12,570 salary saves £2,388.30 in Corporation Tax at the 19% rate. But be careful! If you’ve got other income (e.g., from a day job), your personal allowance might already be used up, so any salary from your company could be taxed at 20%, 40%, or even 45% depending on your total income.
What About the Dividend Allowance?
Now, here’s a little gem: the dividend allowance. For 2025/26, you can receive up to £500 in dividends tax-free, on top of your personal allowance. Dividends are paid from your company’s post-tax profits, and they’re a popular way for directors to extract income because they’re not subject to National Insurance Contributions (NICs). After the £500 allowance, dividend tax rates are:
● Basic Rate (up to £50,270 total income): 8.75%
● Higher Rate (£50,271–£125,140): 33.75%
● Additional Rate (over £125,140): 39.35%
Let’s say you’re a director with no other income. You take a £12,570 salary (tax-free) and £500 in dividends (also tax-free). Your total tax-free income is £13,070. Any dividends beyond £500 are taxed based on your income tax band. For instance, an additional £37,200 in dividends (staying within the basic rate band) incurs £3,255 in dividend tax (8.75%).
A Real-Life Example: Meet Priya’s Consultancy
Picture this: Priya runs a small IT consultancy in Manchester, with £60,000 in profits after expenses in 2025. She pays herself a £12,570 salary, which is tax-free for her and deductible for the company, saving £2,388.30 in Corporation Tax. The remaining profit (£47,430) is taxed at 19% (since it’s under £50,000), so the company pays £9,011.70 in Corporation Tax. Priya then takes £10,000 in dividends, of which £500 is tax-free, and £9,500 is taxed at 8.75% (£831.25). Her total tax bill (company + personal) is £9,842.95, leaving her with a tidy sum to reinvest or spend.
This example shows how combining salary and dividends can keep your tax bill low, but it’s not a one-size-fits-all. If Priya had a side job earning £30,000, her personal allowance would be partly used, and any salary or dividends could push her into the higher tax band. Always tailor your strategy to your circumstances.
Why Allowable Expenses Are Your Best Friend
Be honest: who doesn’t love a legitimate way to cut taxes? Allowable expenses are costs your company incurs “wholly and exclusively” for business purposes, deductible from profits before Corporation Tax. Common examples for 2025/26 include:
● Office costs: Rent, utilities, software subscriptions.
● Travel: Business mileage (e.g., 45p per mile for cars).
● Staff costs: Salaries, pensions, training.
● Marketing: Website development, advertising.
● Professional fees: Accountant costs (expect £79–£200/month).
For instance, if Priya’s company spends £5,000 on new laptops, this reduces taxable profits to £55,000, saving £1,045 in Corporation Tax at 19%. Keep receipts and use accounting software like FreeAgent to track these expenses, as HMRC may ask for proof.
Don’t Forget Capital Allowances
Now, here’s a trick many miss: capital allowances. If you buy assets like machinery or vehicles for business use, you can claim allowances to deduct their cost from profits. The Annual Investment Allowance (AIA) lets you deduct up to £1 million per year for most assets (excluding cars). There’s also a 100% first-year allowance for certain energy-efficient equipment. For example, if Priya buys £20,000 in servers, she can deduct the full amount, slashing her taxable profits and saving £3,800 in tax.
Advanced Tax-Saving Strategies for Limited Company Owners
Can You Use Special Reliefs to Lower Your Tax Bill?
Now, let’s get into the juicy stuff: special tax reliefs that can act like a secret weapon for your limited company. While there’s no blanket tax-free allowance, HMRC offers targeted reliefs that can significantly cut your Corporation Tax liability. These aren’t just for big corporations—small businesses and startups can benefit too. Let’s explore some of the most valuable ones for the 2025/26 tax year, verified with the latest HMRC guidance from GOV.UK.
One standout is the Research and Development (R&D) Tax Relief. If your company is working on innovative projects—say, developing new software or improving a product—you could claim enhanced deductions. For SMEs (fewer than 500 employees and turnover under £100 million), you can deduct 186% of qualifying R&D costs from your profits. So, if you spend £10,000 on R&D, you deduct £18,600, saving £3,534 in Corporation Tax at 19%. If your company is loss-making, you might even get a cash credit of up to 14.5% of the surrenderable loss. Be careful, though: HMRC scrutinises R&D claims, so keep detailed records of your projects.
Another gem is the Patent Box, which slashes your tax rate to 10% on profits from patented products or processes. Imagine your Bristol-based tech firm develops a patented gadget earning £50,000 in profit. Instead of paying £9,500 (19%), you’d pay just £5,000 in tax. The catch? You need an active patent, and the application process can be costly, so weigh the benefits with an accountant.
How Can You Optimise Director Payments?
So, the question is: how do you pay yourself as a director without HMRC taking a big chunk? The salary-dividend mix is king for most small limited company owners, but let’s dig deeper into optimising it for 2025/26. The goal is to balance Corporation Tax savings with personal tax and National Insurance Contributions (NICs).
A common strategy is setting your salary at the NIC primary threshold (£9,100 in 2025/26) rather than the full personal allowance (£12,570). Why? Salaries above £9,100 trigger employee NICs (8% up to £50,270), but salaries below £12,570 still avoid income tax. By paying yourself £9,100, your company saves £1,729 in Corporation Tax (19%), and you avoid NICs and income tax. Then, you take the rest as dividends, using the £500 dividend allowance and keeping within the basic rate band (8.75% tax) where possible.
Here’s a table comparing two strategies for a company with £60,000 profits:
Strategy | Salary (£) | Dividend (£) | Corp Tax (£) | Personal Tax (£) | Total Tax (£) | Net Income (£) |
Salary Only | 12,570 | 0 | 9,011.70 | 0 | 9,011.70 | 50,988.30 |
Salary + Dividend | 9,100 | 45,670 | 9,597.10 | 3,996.13 (8.75%) | 13,593.23 | 46,406.77 |
Source: Calculated using 2025/26 rates from HMRC
The salary-only option gives more net income but leaves less profit in the company for reinvestment. Dividends are more flexible but increase personal tax. If you’re in a higher tax band, dividends become less attractive, so always crunch the numbers.
What About Pension Contributions?
Now, consider this: pension contributions are a tax-efficient way to extract money from your company. Your company can pay into your pension scheme, and these contributions are deductible as an allowable expense, reducing Corporation Tax. For example, a £10,000 pension contribution saves £1,900 in tax at 19%. Plus, the money grows tax-free in your pension, and you can access it from age 55 (rising to 57 in 2028).
The annual allowance for pension contributions is £60,000 in 2025/26, but unused allowances from the past three years can be carried forward if you had a pension then.
Take Sanjay, a Cardiff-based graphic designer running a limited company. His firm earns £80,000 in profits. He pays himself a £9,100 salary, takes £20,000 in dividends (paying £1,356.25 in dividend tax), and contributes £20,000 to his pension. The pension contribution saves £3,800 in Corporation Tax, and the remaining £30,900 profit is taxed at 19% (£5,871). Sanjay’s total tax bill is lower, and he’s building a nest egg for the future.
Step-by-Step Guide: Planning Your Tax-Efficient Pay
Right, let’s make this practical with a step-by-step guide to structure your director payments for 2025/26:
Assess Your Income Needs: Estimate how much you need to live on. Include other income sources (e.g., freelance work) to determine your personal allowance usage.
Set a Tax-Efficient Salary: Aim for £9,100 to avoid NICs while deducting it from company profits. If you have no other income, consider £12,570 to max out your personal allowance.
Use the Dividend Allowance: Take £500 in dividends tax-free. Calculate additional dividends to stay within the basic rate band (£50,270 total income).
Explore Pension Contributions: Contribute up to £60,000 (or more with carry-forward) to reduce company profits and build retirement savings.
Claim All Allowable Expenses: Track every business expense (e.g., mileage, software) to lower taxable profits. Use tools like Xero for accuracy.
Check for Reliefs: If your business innovates, explore R&D relief or Patent Box. Consult an accountant to ensure eligibility.
File Accurately: Submit your Corporation Tax return by 31 January following the end of your accounting period, and pay any tax due within nine months and one day.
Are There Risks to Watch Out For?
Be careful! Tax planning isn’t a free-for-all. HMRC’s IR35 rules can catch you out if you’re a contractor operating through a limited company but working like an employee. If HMRC deems you “inside IR35,” your company’s income is taxed like employment income, wiping out tax advantages. Check your contracts using HMRC’s CEST tool to stay compliant.
Another pitfall is over-claiming expenses. That fancy coffee machine for your home office? If it’s used for personal brews, HMRC might disallow it. Stick to expenses “wholly and exclusively” for business. Also, late filing of your Corporation Tax return incurs a £100 penalty (rising to £200 after three months), so mark your calendar.
Case Study: Liam’s Catering Business
Let’s meet Liam, who runs a catering company in Leeds with £120,000 in profits for 2025. He pays himself a £9,100 salary, saving £1,729 in Corporation Tax. He claims £15,000 in allowable expenses (e.g., ingredients, van mileage), reducing taxable profits to £95,900. With Marginal Relief, his effective tax rate is around 20.5%, so he pays £19,659.50 in Corporation Tax. Liam takes £41,170 in dividends, using his £500 allowance and paying £3,553.88 in dividend tax (8.75%). He also contributes £10,000 to his pension, saving £1,900 in tax. His total tax bill (company + personal) is £25,112.38, leaving him with a healthy net income and funds for business growth.
Key Takeaways for Mastering Limited Company Tax Planning
How Can You Make Sense of It All?
Right, let’s tie everything together. Running a limited company in the UK comes with its fair share of tax complexities, but it also offers plenty of opportunities to keep your tax bill in check. The absence of a specific “tax-free allowance” for limited companies doesn’t mean you’re stuck paying hefty taxes. By understanding Corporation Tax, leveraging personal and dividend allowances, claiming expenses, and tapping into reliefs, you can significantly reduce what you owe HMRC. This final part distils the most critical points from our deep dive into a clear, actionable summary for UK taxpayers and business owners in the 2025/26 tax year. Each point is designed to help you take control of your tax strategy with confidence.
Summary of the Most Important Points
No tax-free allowance exists for limited companies: Unlike the personal allowance (£12,570 in 2025/26), companies pay Corporation Tax on all profits—19% up to £50,000, 25% above £250,000, with Marginal Relief for profits in between.
Use your personal allowance as a director: Paying yourself a salary up to £12,570 reduces company profits and is tax-free for you, saving up to £2,388.30 in Corporation Tax at 19%.
Leverage the dividend allowance: You can take £500 in dividends tax-free, with additional dividends taxed at 8.75% (basic rate), 33.75% (higher rate), or 39.35% (additional rate).
Claim allowable expenses: Deduct business costs like office supplies, travel, and professional fees from profits to lower your Corporation Tax bill.
Maximise capital allowances: Use the £1 million Annual Investment Allowance to deduct asset costs (e.g., equipment) from profits, potentially saving thousands in tax.
Explore R&D tax relief: SMEs can deduct 186% of qualifying R&D costs, reducing taxable profits or even securing a cash credit if loss-making.
Consider the Patent Box: Profits from patented products can be taxed at a reduced 10% rate, ideal for innovative businesses.
Optimise director payments: A salary at the NIC threshold (£9,100) plus dividends within the basic rate band minimises personal and company taxes.
Use pension contributions: Company pension contributions (up to £60,000 annually) are tax-deductible and grow tax-free, boosting your retirement savings.
Stay compliant to avoid penalties: Watch out for IR35 rules, claim only valid expenses, and file your Corporation Tax return on time to avoid fines starting at £100.
Why Does Tax Planning Matter So Much?
Now, let’s be real: tax planning isn’t just about saving a few quid—it’s about keeping your business thriving. Every pound you save on taxes is a pound you can reinvest in hiring staff, upgrading equipment, or expanding your market. For example, take Aisha, a freelance marketer in Birmingham with a limited company earning £90,000 in profits in 2025. By following the strategies we’ve discussed—£9,100 salary, £20,000 in dividends, £10,000 in allowable expenses, and a £15,000 pension contribution—she reduces her taxable profits to £55,900. With Marginal Relief, her Corporation Tax is around £11,459.50, and her dividend tax is £1,356.25. Her total tax bill is £12,815.75, leaving her with ample funds to grow her business and secure her future.
What Happens If You Get It Wrong?
Be careful! Tax mistakes can sting. Miss the Corporation Tax filing deadline (31 January after your accounting period), and you’re looking at a £100 penalty, doubling to £200 after three months. Over-claim expenses, and HMRC might disallow them during an audit, hitting you with back taxes plus interest. If you’re a contractor, falling foul of IR35 could mean your company’s income is taxed like a salary, erasing the tax benefits of a limited company. Always double-check your setup with tools like HMRC’s CEST tool and consult an accountant for complex cases.
A Final Case Study: Tara’s Eco-Friendly Startup
Let’s wrap up with Tara, who runs an eco-friendly product startup in Glasgow. Her company earns £70,000 in profits in 2025. She claims £8,000 in allowable expenses (e.g., marketing, travel) and £12,000 in R&D costs for developing sustainable packaging. The R&D relief allows a 186% deduction (£22,320), slashing taxable profits to £29,680. At 19%, her Corporation Tax is £5,639.20. Tara pays herself a £9,100 salary (saving £1,729 in tax) and £20,000 in dividends (£1,356.25 tax). Her total tax bill is £8,995.45, and she reinvests the savings into new product lines. By using R&D relief and a smart salary-dividend mix, Tara keeps her taxes low while fuelling growth.
Tools to Stay on Top of Your Taxes
Now, here’s a pro tip: use technology to simplify tax planning. Software like QuickBooks, Xero, or FreeAgent can track expenses, calculate deductions, and remind you of HMRC deadlines. For R&D claims, consider specialist firms, but ensure they’re reputable to avoid HMRC scrutiny. Regularly check GOV.UK for updates on rates and allowances, as tax rules can shift with Budget announcements.
Here’s a quick table summarising key 2025/26 tax thresholds for directors:
Tax Element | Amount (£) | Notes |
Personal Allowance | 12,570 | Tax-free income for individuals, deductible as a company expense. |
Dividend Allowance | 500 | Tax-free dividends; excess taxed at 8.75%, 33.75%, or 39.35%. |
NIC Primary Threshold | 9,100 | Salary below this avoids employee NICs. |
Annual Investment Allowance | 1,000,000 | Deduct up to £1m for business assets (excl. cars). |
Pension Annual Allowance | 60,000 | Tax-deductible contributions, with carry-forward for unused allowances. |
Source: HMRC Rates and Allowances
FAQs
Q1: What is the difference between a personal allowance and a limited company tax-free allowance?
A1: A personal allowance (£12,570 in 2025/26) applies to individual income, allowing tax-free earnings up to that amount. Limited companies have no equivalent tax-free allowance; all profits are subject to Corporation Tax.
Q2: Can a limited company claim tax relief on charitable donations?
A2: Yes, donations to registered charities are deductible as allowable expenses, reducing taxable profits, provided they are wholly for business purposes, such as sponsorships.
Q3: How does VAT affect a limited company’s tax-free earnings?
A3: VAT doesn’t directly affect Corporation Tax, but if a company is VAT-registered, it must charge VAT on sales and can reclaim VAT on qualifying expenses, indirectly boosting cash flow.
Q4: Can directors use their personal allowance for multiple limited companies?
A4: A director’s personal allowance applies to their total income, not per company. If they receive salaries from multiple companies, the combined income must stay within the £12,570 allowance to remain tax-free.
Q5: What happens if a limited company doesn’t claim allowable expenses?
A5: Unclaimed expenses increase taxable profits, leading to a higher Corporation Tax bill. Companies should track and claim all valid expenses to minimise tax liability.
Q6: Can a limited company carry forward losses to offset future profits?
A6: Yes, trading losses can be carried forward to offset future profits of the same trade, reducing future Corporation Tax, provided the company continues the same business activities.
Q7: How does the size of a company affect its Corporation Tax rate?
A7: Companies with profits up to £50,000 pay 19%, those over £250,000 pay 25%, and those in between benefit from Marginal Relief, with thresholds divided by the number of associated companies.
Q8: Can a limited company claim tax relief for working from home?
A8: Directors working from home can claim expenses like a portion of utility bills or rent as allowable deductions, based on business use, reducing taxable profits.
Q9: What are the penalties for late Corporation Tax payments?
A9: Late payments incur interest at 3.5% above the Bank of England base rate, plus potential late filing penalties starting at £100 if the return is filed after the deadline.
Q10: Can a limited company deduct training costs for directors?
A10: Yes, training costs for directors are deductible if they enhance skills directly related to the business, such as professional development courses.
Q11: How does paying dividends affect a director’s National Insurance contributions?
A11: Dividends are not subject to National Insurance contributions, making them a tax-efficient way for directors to extract income compared to salaries.
Q12: Can a limited company claim tax relief for bad debts?
A12: Yes, bad debts are deductible if the company can prove the debt is irrecoverable and was included in taxable income, reducing profits for Corporation Tax.
Q13: What is the impact of having associated companies on tax thresholds?
A13: Associated companies share the £50,000 and £250,000 profit thresholds, lowering the limit per company and potentially increasing the effective tax rate.
Q14: Can a limited company deduct entertainment expenses?
A14: Entertainment expenses, like client meals or events, are generally not deductible for Corporation Tax, except for staff entertainment up to £150 per employee annually.
Q15: How does the Annual Investment Allowance work for second-hand assets?
A15: The £1 million AIA covers most second-hand business assets (excluding cars), allowing full deduction from profits in the year of purchase, provided they’re used for business.
Q16: Can a limited company claim tax relief for health and safety equipment?
A16: Yes, costs for health and safety equipment, like protective gear or fire safety systems, are deductible as allowable expenses if required for business operations.
Q17: What records must a limited company keep for tax purposes?
A17: Companies must keep records of all income, expenses, and assets for six years, including receipts, invoices, and bank statements, to support tax returns and HMRC audits.
Q18: Can a limited company claim tax relief for business gifts?
A18: Gifts costing up to £50 per recipient are deductible if they carry a conspicuous business advertisement and aren’t food, drink, tobacco, or vouchers.
Q19: How does the timing of dividend payments affect tax liability?
A19: Dividends are taxed based on the tax year they’re paid in, so timing payments to stay within the £500 allowance or lower tax bands can reduce personal tax.
Q20: Can a limited company claim tax relief for professional subscriptions?
A20: Yes, subscriptions to professional bodies or trade organisations are deductible if directly related to the business, reducing taxable profits.
About The Author:
Adil Akhtar, ACMA, CGMA, CEO and Chief Accountant of Pro Tax Accountant, is an esteemed tax blog writer with over 10 years of expertise in navigating complex tax matters. For more than three years, his insightful blogs have empowered UK taxpayers with clear, actionable advice. Leading Advantax Accountants as well, Adil blends technical prowess with a passion for demystifying finance, cementing his reputation as a trusted authority in tax education.
Email: adilacma@icloud.com
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