What are Company Reserves?
The company reserves are the company profits that sit in the company accounts, ready for later use. In micro entity, profit-making companies, these profits are used to distribute dividends each year. Please see below an example:
- Company Profit 2022: £80,000
- (Corporation Tax: £15,200)
- Net Profit: £64,800
- Dividends for the year: £50,000
- Company reserves: £14,800 (net profit £64,800-dividends £50,000)
Before taking money out of a limited company, you must ensure that the company has enough reserves to cover the dividend amount. In this example, we can see that the dividend taken is less than the net profit figure which means that the company remains solvent.
How much do I have in company reserves to cover my cash drawings?
It is important that throughout the company accounting period, you are monitoring how much your company is making in profit so that you can ensure that you are not overdrawing funds. This can be achieved by comparing the director’s loan balance against the company reserves to check that the loan is within the reserves amount. At the end of the accounting period, we will declare a dividend within the reserve amount to clear the loan. Please see below how to monitor this by using the report ‘Creditors’ and ‘Capital & Reserves.
Within the ‘Capital & Reserves’ report, your company reserves are displayed as the ‘Total Equity Figure’, please ensure that the date range is This Financial Year.
- The corporation tax is only calculated at the end of the accounting period, therefore in order to obtain an accurate reserves figure, you will need to calculate
- an estimated corporation tax figure.
- To do this, you will need to take the ‘current year earnings’ figure as at today’s date and times by 19%. You will then need to subtract this figure from the ‘Total Equity’ figure which will give you the estimated company reserves.
- To check that you have not overdrawn your reserves, use the ‘creditors’ report to check the balance of the directors loan account as at today’s today.
- Then compare this against your estimated company reserves figure.
For example:
Creditors report:
- Directors loan balance as at today: (£12,000)
Capital & reserves report:
- Current Year Earnings: £7,000
- Estimated Corporation tax according to current earnings: £1,330 (19% of £7,000)
- Estimated Total Equity: £5,670 (£7,000 – £1,330)
- Overdrawn reserves: £6,330 (directors loan of £12,000, estimated total equity £5,670)
If your reserves are overdrawn, this means that you have taken too much money out of the company and you will need to pay the balance back. This will be the difference between the estimated total equity and the directors loan balance.
If your directors loan is within the estimated Total Equity Figure (taking into consideration corporation tax), then you are on track for the year.
How much can I withdraw each year?
You will need to check two things in your xero account before making drawings.
- Firstly, you will need to check how much the company has in reserves.
- Secondly, you will need to ensure that your total dividend amount for the tax year does not push you into the higher tax bracket (approximately £50,000). Therefore, you will need to consider what other income you have for the year and stay within a total income of £50,000 to remain tax efficient.
- If you have significant income from outside of the limited company, we advise as a minimum, taking your tax free amount each year of £2,000.
- If you have no other income other than from the limited company, we advise taking £41,000 as dividends and approximately £9,000 in salary.
Please get in contact with us if you would like us to check your calculation: [email protected]
