Danny Pritchard
May 15, 2024
Whether you are a sole trader or a company director, we’ll provide you with the knowledge and know-how to optimise your personal earnings and make the most of your business ventures.
Paying yourself as a limited company in NZ can be easy if you have a thorough understanding and apply the information we’ve shared below, or you can save yourself time by reaching out for our advice on the best option for your personal situation.
Before we dive into the specifics of paying yourself from a company in New Zealand, it's important to understand what a limited company is and how it operates. In New Zealand, a limited company is a separate legal entity from its owners or shareholders. This means that the company itself is responsible for its debts and liabilities, providing a level of protection for its owners.
As a business owner, you may choose to operate as a sole trader or a limited company. While operating as a sole trader is simpler in terms of financial and legal obligations, forming a limited company can provide additional benefits such as limited liability protection and potential tax advantages. However, paying yourself from a limited company requires a different approach compared to paying yourself as a sole trader.
If you plan on paying yourself a normal salary (on payroll, just like having a job), you essentially become an employee of your own company. You will first need to register as an employer with Inland Revenue (IRD) - which is easy to do via myIR, and once you’re registered, you can set yourself up as an employee on Xero (or your accounting software). As the business owner, you are responsible for deducting the appropriate amount of income tax and other deductions from your salary or wages.
For each pay run, your limited liability company will directly transfer your net pay (which is your take-home pay after tax and deductions) to you personally. The company will also pay the IRD the ‘DED’ (which includes PAYE/Income Tax, Kiwisaver and other deductions).
It's important to note that as a director and shareholder of a limited company, you are considered an employee for tax purposes. This means that you need to comply with the same rules and regulations as any other employee in New Zealand. The major benefit of paying yourself a PAYE salary is that your income is taxed as you go, which means you don’t need to be disciplined and put money aside for tax (no surprise tax bills at the end of the financial year for you).
First, what are drawings?
As a shareholder (or business owner), if you are not paying income tax (aka PAYE) on any money that you are taking out of the business for personal use, you are taking drawings out of the company. For example, taking money out of the company bank account to pay yourself or buying personal groceries using your company credit card would be considered drawings. If you own a business, this cash goes straight into your pocket. The downside is that there might be tax implications…more on this below.
Good question! When taking out drawings to pay yourself from a limited company, a key consideration is determining whether you do need to pay tax on the money you take out (sometimes you may not have to).
As a shareholder, if you have introduced funds into the limited company, this money is essentially treated as a ‘shareholder loan’. If the amount of the drawings (what you have taken out of the limited company) is less than the funds you have introduced (aka loaned), you will likely be able to take out that difference tax-free. For example, over the years you have transferred $80,000 into the company and only taken out $50,000 in drawings. The $50,000 will usually not be subject to income tax, plus there will be another $30,000 that you should be able to take out of the company with no personal tax implications. Essentially you are paying yourself back and therefore these ‘drawings’ are treated as a loan repayment rather than taxable income.
Still with us? Good. This is the important part…
On the other hand, if you have taken out more than what you have put in, then you will likely need to pay tax on this money. We call this an overdrawn shareholder account. Your accountant would usually declare the difference as a 'shareholder salary' (although there are other options like loans from the company to the shareholder which we will get to). The income from the ‘shareholder salary’ (as a result of drawings) will be included in your personal income tax return and taxed at your personal tax rate. The ‘shareholder salary’ comes out as an expense and therefore is tax-deductible for the company, however the shareholder will declare this income on their personal tax return and pay tax.
If you have overdrawn shareholder accounts (i.e. when ‘drawings’ are greater than ‘funds introduced’) and the balance is not declared as a ‘shareholder salary’ then the money can be treated as a loan from the company to you (or the shareholder). In this case, the company will need to charge you interest (at IRD’s prescribed interest rate, which fluctuates based on the market). This interest is revenue for the company and will increase your company's profit, meaning that not only will you be paying the company interest but the company will pay tax on the interest income. There are a few reasons why you might go down this route but it’s generally not recommended and it’s likely you’d need to pay the company back this money if you ever wanted to close it down.
If your drawings exceed any funds introduced and you declare a ‘shareholder salary’ you will usually end up with a tax bill. As you go, no tax is deducted from drawings, so we recommend you put aside some extra cash to cover any personal income tax.
Depending on your income (or tax bracket), it’s a good idea to put aside a certain portion of your income for tax, and do it consistently. That way, when the taxman comes calling, you’ll have the money already put aside ready to cover your tax bill. For example, say you take out $5,000 per month ($60K/year) in drawings and have no other personal income, you’d need to put away around 18% for tax. To find more specific info on what you need to put away based on your income check out this tax calculator, ask your accountant, or talk to us.
If you’re on provisional tax, you might not be stung with a big bill at the end of the year - you would have been pre-paying tax based on the last year’s taxable income in 3 instalments. However, these payments can vary and don’t always reflect what you earn which makes tax planning and cash flow difficult to manage so it is still recommended to put money aside.
As a director of a limited company (and a shareholder), you may wonder how to pay yourself in a way that is sticking to the rules, but also giving you more money. One common method is to pay yourself a ‘regular salary’ or ‘wage’ (PAYE), similar to any other employee. This ensures that you are contributing to your KiwiSaver and meeting your tax obligations.
In addition to your salary, you may also be entitled to receive other benefits as a director. These benefits can include reimbursements for business expenses, such as travel or entertainment, as well as fringe benefits like company vehicles or health insurance. It's important to keep records of these expenses and benefits to keep the tax man at bay.
Another option for paying yourself as a director is through shareholder loans but you must be a shareholder for this option (some directors are not shareholders). Shareholder loans allow you to borrow money from your company for personal use and repay it over time. However, it's important to structure these loans properly and charge an appropriate interest rate to avoid potential tax implications.
Ultimately, the method you choose to pay yourself as a director will depend on your personal circumstances and financial goals. Seeking advice from an accountant or advisory can help you make informed decisions and maximise your personal income while staying in the good books of the IRD.
In addition to paying yourself a salary or wage, as a shareholder of a limited company, you may be eligible to receive dividends or shareholder distributions. Dividends are payments made to shareholders out of the company's profits (after tax), typically in proportion to their shareholding. To be eligible to receive dividends, the company must have sufficient profits and meet certain legal requirements. It's important to note that dividends are subject to a lower tax rate compared to salary income. However, it's essential to carefully calculate and declare dividends to ensure you’re complying with the NZ tax regulations.
When considering dividends or shareholder distributions, it's important to strike a balance between maximising your personal earnings and retaining profits within the company for future growth and investment. Again, seeking advice from a qualified accountant or tax advisor can help you navigate through these options and make informed decisions.
Paying yourself from a limited company in New Zealand can be quite a complex process that requires a thorough understanding of legal requirements and tax obligations. By having a decent payroll system, determining the right balance of salary and shareholder distributions, and seeking professional advice when needed, you can ensure that you are compensating yourself appropriately while maximising your personal earnings. There is a lot we haven’t covered and everyone’s situation is unique, so please get in touch with our team if you need help!
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