What is the difference between taking salary and dividends as a company director?

They are legally different transactions, taxed differently, subject to different conditions — and the common advice to "take a small salary and the rest as dividends" is a simplification that depends heavily on circumstances.

Salary. Payment for employment. Subject to income tax and National Insurance through PAYE, with employer's National Insurance payable by the company on top. It is a deductible expense, reducing the company's corporation tax.

Paid regardless of profit, and must comply with employment and minimum wage rules where a contract exists.

Dividends. A distribution of profit to shareholders. Paid from distributable reserves — accumulated post-tax profits — and only if those exist. Not a company expense, so it does not reduce corporation tax; the profit has already been taxed at the company level.

Taxed on the individual at dividend rates, generally lower than income tax rates, with a dividend allowance. No National Insurance is due on dividends at all, which is the main reason they are attractive.

Why the mix matters. Salary is deductible but attracts NI on both sides; dividends avoid NI but come from already-taxed profit. The optimal mix depends on profit levels, corporation tax rates, personal allowances and the individual's other income — and it changes whenever rates change, which is frequently.

The common structure: a salary at a level that maintains a qualifying year for State Pension and other contributory benefits without triggering significant NI, with the balance as dividends. Whether that remains optimal depends on current thresholds.

What people get wrong:

Paying dividends with no distributable profit. This is unlawful, and directors can be required to repay. Drawing monthly against an assumed profit that the year-end accounts do not support is common and genuinely problematic.

Not documenting dividends. Board minutes and dividend vouchers are required, and their absence causes trouble on enquiry.

Ignoring multiple shareholders. Dividends must be paid pro rata by share class, so you cannot simply pay one shareholder more without different share classes.

Forgetting pension contributions, which are frequently more tax-efficient than either.

Mortgage lending can treat dividend income less favourably.

This is general information, not tax advice — take proper advice for your own position.