After a year of hard work, strategic pivots, and sleepless nights, your business has turned a profit. It’s a moment of satisfaction that is quickly followed by one of the most complex questions a company director faces: “What is the most intelligent way to pay myself?”

This isn’t a simple question of moving money from one account to another. It’s a strategic decision that sits at the crossroads of at least four different tax regimes: Corporation Tax, Income Tax, National Insurance, and Dividend Tax. Getting it wrong can mean needlessly handing thousands of pounds to the taxman. Getting it right can significantly accelerate your journey to financial freedom.

From my office in Worcester, I guide business owners through this puzzle every day. The answer is rarely a single choice, but a sophisticated blend of three primary methods: salary, dividends, and pension contributions. This guide will break down the mechanics of each for the 2025/26 tax year, showing you how they work, the tax they attract, and how to combine them to create the optimal profit extraction strategy for you.

(Please note: The tax rates and allowances used in this article are based on those known for the 2025/26 tax year as of July 2025 and are for illustrative purposes. Tax rules are complex and can change.)

Part 1: The Building Blocks of Your Remuneration

To build the right strategy, you first need to understand your materials. Let’s examine each method in detail, using a simple example: how much does it “cost” the company to get approximately £8,000 of value into your hands or personal pension?

Method 1: The Salary – Familiar but Costly

This is the most straightforward method. Your company pays you a salary through the PAYE system, just like any other employee.

• The Pros: It’s simple to understand and administer. Taking a salary of at least £6,396 (the Lower Earnings Limit) qualifies you for State Pension credits. A salary is also a requirement to be able to make personal pension contributions.
• The Cons (The Tax Drag): A salary is subject to multiple layers of tax that create a significant “drag” on efficiency.

1. 1. Employer’s National Insurance: The company pays 13.8% on any salary above the Secondary Threshold (£9,100). This is a direct, additional cost to the business.
   2. Employee’s National Insurance: You personally pay NI on the salary you receive.
   3. Income Tax: You pay Income Tax at your marginal rate (20%, 40%, or 45%) on salary above your Personal Allowance (£12,570).

The Net Result: To put £8,000 of post-tax cash in your pocket as a higher-rate taxpayer from salary alone would require a gross salary far in excess of this, and would cost your company even more once Employer’s NI is factored in. While the total cost is a deductible expense for Corporation Tax, the combined NI burden makes it highly inefficient for large sums.

Method 2: The Dividend – The Traditional Director’s Choice

For years, the go-to strategy for directors has been to take a small salary and the rest of their income as dividends.

• The Pros: The primary advantage is the complete absence of National Insurance. Neither the company nor the individual pays any NI on a dividend payment, which is a significant saving compared to a salary.
• The Cons (A Two-Stage Tax):
  1. Corporation Tax First: Before a dividend can be paid, the company must generate a profit and have that profit taxed at the main rate of Corporation Tax (currently 25%). You can only distribute what’s left.
  2. Personal Dividend Tax: You then personally pay tax on the dividends you receive. For 2025/26, every individual has a £500 tax-free Dividend Allowance. Above this, the rates are 8.75% for basic-rate taxpayers, 33.75% for higher-rate taxpayers, and 39.35% for additional-rate taxpayers.

The Net Result: Let’s trace the journey of £10,000 of pre-tax profit. The company first pays £2,500 in Corporation Tax, leaving £7,500 available to be distributed. If you are a higher-rate taxpayer, you would then pay 33.75% tax on this dividend (after your £500 allowance), leaving you with significantly less in your pocket.

Method 3: The Pension Contribution – The Ultimate Tax Shelter

This is the most powerful, yet often underutilised, method for extracting profit and building long-term personal wealth. Here, the company makes an “employer pension contribution” directly into your SIPP or SSAS.

• The Pros (The ‘Triple Lock’ of Tax Efficiency):
  1. Full Corporation Tax Relief: The contribution is almost always treated as a fully allowable business expense. So, a £10,000 contribution reduces your company’s profit by £10,000, saving £2,500 in Corporation Tax (at 25%). The net cost to the business is only £7,500.
  2. No National Insurance: There is no Employer’s or Employee’s NI to pay whatsoever.
  3. No Immediate Income Tax: The full amount lands in your pension pot without any personal tax being deducted. It then grows in a tax-sheltered environment.
• The Cons: The major trade-off is accessibility. This money is for your future self. It is locked away until you reach pension age (currently 55, but rising to 57 in 2028).

The Net Result: A £10,000 pre-tax profit can become a £10,000 contribution in your pension pot, at a net cost to your company of just £7,500. Compare that to the net result of salary or dividends – the difference is staggering.

Part 2: The Integrated Strategy: Building Your Personalised 2025/26 Plan

The smartest approach is not to choose one method, but to build a pyramid, using each method for a specific purpose.

Step 1: The Foundation – An Efficient Salary Pay yourself a small salary. For many directors, the optimal amount is up to the Personal Allowance (£12,570). This uses up your tax-free allowance efficiently, and while it incurs a small amount of NI, it’s a solid foundation for your remuneration.

Step 2: The Main Event – Maximise Your Pension Before you even think about large dividends, you should ask: have I used my Pension Annual Allowance? For 2025/26, this is £60,000 (though it can be lower for very high earners). As we explored in our “Is Your Business Your Pension?” articles, using company profits to build this separate, protected pot of wealth is a critical de-risking strategy. From a purely tax perspective, it is unmatched in its efficiency for turning company profits into personal wealth.

Step 3: Flexible Topping-Up – Use Dividends for Lifestyle Once you have funded your pension for the year, use dividends to draw the remaining income you need to fund your lifestyle. This gives you flexibility. You can draw larger amounts in some years and less in others, managing your personal tax liability accordingly.

Let’s look at an example: Sarah is the sole director of a Worcester-based marketing agency. The company has £80,000 in pre-tax profit she wants to extract.

• Strategy A (High Dividend): She takes a £12,570 salary. The remaining £67,430 of profit is subject to £16,857 in Corporation Tax, leaving £50,573 available for dividends. She pays a significant amount of higher-rate dividend tax on this.
• Strategy B (Pension-First): She takes the same £12,570 salary. She then decides to make a £40,000 employer pension contribution. This is a deductible expense. The remaining profit (£27,430) is subject to £6,857 in Corporation Tax, leaving £20,573 for dividends.

In Strategy B, she has received the same salary, has £40,000 safely growing in her pension for her future, and still has over £20,000 in dividends for her lifestyle. The total tax paid across all entities is significantly lower.

Conclusion: A Strategic Choice, Not a Simple One

There is no “one size fits all” answer to the profit extraction puzzle. The right strategy for you will depend on your age, income needs, long-term goals, and appetite for saving. However, the mathematical hierarchy of tax efficiency is clear. For any director serious about building long-term wealth, a strategy that prioritises pension contributions before taking large dividends is almost always superior.

This is not a decision to be made once and then forgotten. It should be reviewed every single year as tax rules, and your own circumstances, inevitably change. A small adjustment to your strategy can make a huge difference to your net wealth over time.