Blog · Directors & limited companies

Why your “tax efficient” dividend split is probably wrong

The £12,570 salary plus dividends formula isn’t wrong. It’s generic. Here’s what it misses, with real numbers. A six-minute read.

By Umang · Published November 2026 · ← All guides

Last updated 1 November 2026. All figures are 2026/27 rates.

In short: The “£12,570 salary plus dividends” formula you’ve read on every contractor forum isn’t wrong. It’s just generic. Apply it to money you don’t actually need yet, or let it tip you over £100,000, and it quietly costs you thousands a year.

It’s a plan I hear on first calls more than any other, so let’s give it a face. Take a director we’ll call James. Salary at £12,570, every single year. Everything else out as dividends, every single year. He built it off a spreadsheet he found on a contractor forum four years ago and hasn’t touched it since. “It’s tax efficient,” he’d tell you, like it was a fact rather than a starting point.

It was, once. Run his actual numbers and it’s now costing him just over £15,000 a year. Not because the formula is wrong. Because he stopped asking whether it still applied to him.

“It’s my money, I’ll just take it all out”

This is the sentence I hear most. Usually followed by “dividends are more tax efficient than salary, aren’t they?” Sure, on the pound you’re taking out right now, dividends usually beat salary because you skip National Insurance. But that only compares two ways of getting money into your pocket this year. It says nothing about whether this year is when you should be taking it at all.

Here’s the bit nobody mentions on the forums. If you don’t actually need the cash, taking it out as a dividend is one of the most expensive things you can do with it.

The worked numbers

James has £30,000 of profit sitting in the company that he doesn’t need. He’s already covered his living costs for the year through salary and an earlier dividend. This £30,000 is pure “might as well” money.

Taken as a dividend, here’s what actually happens to it:

1. The company pays corporation tax on that slice of profit first. Because its total profit for the year sits between £50,000 and £250,000, marginal relief applies, which works out as an effective rate of 26.5% on each extra pound. £30,000 becomes £22,050 after corporation tax.
2. James is already a higher rate taxpayer once you count his salary and existing dividends, so the £22,050 is taxed again, this time at 35.75%. That’s another £7,883 gone.
3. He keeps £14,167 of the original £30,000.

That’s a combined tax rate of just under 53% on money he didn’t need. HMRC never sends you a letter explaining this. You only find out by doing the sums, or by having someone do them for you.

What he could do instead

The same £30,000, paid into his pension as an employer contribution, sidesteps both of those taxes. It’s normally a deductible business expense (subject to the usual “wholly and exclusively” rule and the £60,000 annual allowance), so it comes off profit before corporation tax ever touches it. No income tax and no National Insurance on the way in. The full £30,000 goes to work for him, not £14,167.

The catch, and it’s a real one: that money is now locked away until he can access his pension. It isn’t free money, it’s deferred money. It’s taxed later, often at a lower rate, with 25% of it normally tax free when he draws it, instead of taxed twice right now. For cash he doesn’t need this year, that trade is usually worth making. For cash he does need, it obviously isn’t. This is a decision to make deliberately, not a default to fall into either way.

Four things the blanket dividend advice ignores

1. Whether you actually need the money now. The “take it all as dividends” habit assumes every pound that leaves the company has to land in your current account this year. It doesn’t.
2. The £100,000 trap. Between £100,000 and £125,140 of total income, you lose £1 of personal allowance for every £2 you earn. Run the maths on dividends sitting in that band and the effective marginal rate comes out at around 54%. The personal allowance has been frozen at £12,570 since 2021 and stays frozen until 2031, so every year more people wander into this band by accident, not because they got a pay rise that felt like one. Our £100k tax trap calculator shows how much of your allowance you’d lose.
3. Pension contributions aren’t “extra”, they’re an alternative. Every pound the company pays into a director’s pension is a pound that isn’t taxed this year, by the company or by you. It’s sitting right there as an option, and the default dividend split never even considers it.
4. What a mortgage lender actually wants to see. Lenders like consistent salary far more than lumpy annual dividends, especially from a one-person company. If you’re applying for a mortgage in the next couple of years, the “most tax efficient” split on paper can work against you at the lending stage.

The honest version of the advice

£12,570 salary and dividends for the rest is still a sensible starting point for most one-person companies. I’m not telling you to abandon it. I’m telling you it’s a default, not a decision, and it needs checking against your actual year, not just copied forward from the spreadsheet you built four years ago. If you want the full walkthrough of setting your salary, dividends and pension for 2026/27, start with how to pay yourself from your limited company tax-efficiently.

Before you take anything out, ask yourself the three questions that actually matter:

1. Do I need this money this year, or can it wait?
2. Does taking it push my total income over £100,000?
3. Would a pension contribution do the same job for less tax?

If the answer to all three points the same way the forum spreadsheet does, take the dividend. If it doesn’t, you’ve just found money that was never yours to lose.

The 2026/27 figures this is based on

If your dividend split hasn’t been reviewed since the year you first set it up, it’s probably due one. DMs are open, or book a free consultation and we’ll run your actual numbers rather than the generic ones.

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