Tax-efficient bonuses for directors

Timing a bonus

If a company intends to pay a bonus it needs to make sure the admin is dealt with properly to ensure the company obtains a corporation tax (CT) deduction for it at the earliest opportunity. The best time is shortly before the end of thecompany’s accounting year/period. This is because to obtain a tax deduction for the accounts to which the bonus relates there must be an obligation to pay it.

An obligation to pay a bonus exists at the accounts year/period-end date if its voted for in principle before the accounting year end. The timing and method of payment can be sorted out later.

To qualify for a CT deduction for the accounting period to which a bonus relates, the actual bonus payment, e.g. the transfer of cash from the company to the director or a credit to their loan account, must be made within nine months of the end of the accounting period. If it isn’t the deduction is delayed and allowed for the accounting period in which the payment occurs.

A bonus is treated as paid for income tax purposes on the date the director has an enforceable right to it even if the actual payment date is later. It’s the date that the right accrues to the dividend that triggers the PAYE and NI liability.

Directors’ bonuses cannot be deferred simply by adding restrictions on the right to draw the sums. As stated earlier, a bonus is treated as paid when it is credited in the company’s accounts and records, e.g. to the director’s loan account, and not when physically paid out of the company’s bank account.

Because a bonus doesn’t have to be paid until nine months after the year end, wait until after the company’s draft accounts are drawn up and the pre-bonus profit figure is known to decide on the final level of bonuses.

Example. Acom Ltd’s current financial year ends on 31 March 2022. Its directors hold a board meeting on 30 March at which they approve a bonus for themselves equal to 20% of the company’s profits as shown when the accounts are finalised. Acom’s accounts should include a provisional expense to reflect the expected bonus. CT relief is permitted for this as long as the bonus is paid on or before 31 December 2022. The trigger date for PAYE purposes in this case is the date the amount of the bonus is determined. Acom’s 2022 accounts are finalised in July 2022. The directors are liable to tax on the bonus in 2022/23 and not 2021/22 when the bonus was approved in principle.

Watch for the increased NI

When including a bonus in company’s accounts which won’t be paid until on or after 6 April 2022, don’t forget to reflect the employers’ NI at the higher rate (15.05%) which will apply from that date.