How do I pay less taxes: as a self-employed worker or as a limited company?

The main differences between paying taxes as a self-employed worker and a limited company
Professionals and business owners who pay Personal Income Tax as self-employed workers often ask about the possibility of paying tax as a limited company. The personal income tax bill is much higher than corporation tax as of a certain level of revenue, so deciding on one form of taxation or another is the eternal question for many self-employed freelancers, who can choose between personal income tax and corporation tax. Before we go into the comparisons, we must be clear that a professional who is an employee in a company with a high salary does not have this option, because their work income is their work income and there is no room for doubt. By contrast, a designer, journalist and other professionals may well be able to consider this option.
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The search for balance between income and companies

For corporate tax, net profit, companies pay a fixed rate of 25%. This percentage of 25% applies as general rule and assumed without considering scenarios where that tax rate may be less through some kind of deduction.

Since personal income tax (IRPF) is paid progressively, and taking personal and family circumstances into account, we must make a decision based on from which level corporate taxation may be feasible. The personal income tax (IRPF) rates for the income of individuals according to the tax base are as follows:

  • Up to 12,450.00 euros: 19%
  • From 12,451.00 euros to 20,200.00 euros: 24%
  • From 20,201.00 euros to 35,200.00 euros: 30%
  • From 35,201.00 euros to 60,000.00 euros: 37%
  • From 60,001.00 euros: 45%

With these percentages, 25% taxation of the tax base is obtained in the annual tax return with a tax base of 41,400 euros, for a person who is single and does not have any disabilities. From this taxable income is subtracted the minimum personal tax exemption, which is 5,151 euros for this year, whereupon we would have an effective taxable income of 36,250 euros.

This means that if our total income from business activities is above 41,400 euros, we will pay less tax if we contribute through the corporate tax than through the personal income tax. To reach our point of balance, we can use a personal income tax calculator to obtain this figure. The taxable income base for which you pay personal income tax is shown in box 620 of the tax return. Bear in mind that we are referring at all times to general tax base.

How to lower my tax invoice with corporate tax

If my general taxable income base for personal income tax is greater than 41,400 euros, considering incorporating a company to process my income as a legal entity will allow me to pay less tax in a lawful way. The higher my tax base is above this figure, the more beneficial it will be to form a company.

However, withdrawing money from a company is taxed as a dividend on your tax return at 18% (19% as of 6,000 euros) and to round off, the company must pay us a salary as a director within the management tasks of the company.

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Let's imagine that you perform several business activities that generate earnings of 75,000 euros per year. The ideal situation is that the company pays you an annual salary that does not exceed 41,000 euros. These initial 41,000 euros will be paid as personal income tax (IRPF) at a global tax rate under 25%, and personally, you will have your income covered without the need to resort to the distribution of dividends, and the society will be taxed the difference at an effective rate of 25%.

Setting up a company includes certain costs, approximately 700 euros, as well as documentation and other formal obligations. If we are not well versed in tax matters, we should entrust the company management services to a trusted consultant. As a general rule, in terms of consultancy, the fiscal balance limit is set at € 50,000 of the tax base of the personal income tax (IRPF). If the tax base on our annual tax return is higher than 50,000 euros, it is advisable to set up a company, however, it is not worth it for lesser amounts.

Another question is whether a company provides greater legal coverage or not, and therefore whether it may be of interest for legal reasons; this issue is outside the scope of fiscal balance, which is the focus of this article.

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