Understanding the legal and employment status of a director within a limited company is essential for business owners, stakeholders, and the directors themselves.

While many assume that directors automatically count as employees, the reality is more complex.

The classification impacts everything from tax obligations to employment rights, and it’s crucial to get it right for legal compliance and financial clarity.

This guide explores whether a director is an employee of a limited company, the difference between office holders and employees, and how UK law governs this unique status.

What is the Legal Definition of a Company Director in the UK?

A director in a UK limited company is someone appointed to run the business and ensure it complies with company law.

The role is defined in the Companies Act 2006, which outlines directors’ general duties including promoting the success of the company, acting with reasonable care, skill and diligence, and avoiding conflicts of interest.

There are several categories of company directors:

• Executive directors: Involved in day-to-day management and often hold a salaried position
• Non-executive directors: Offer strategic guidance without being involved in regular operations
• Shadow directors: Individuals who exert influence on the board but are not formally appointed
• Nominee directors: Appointed by shareholders or other stakeholders to represent specific interests

Each type of director has responsibilities, but their classification as an employee depends on whether they also hold a contract of employment.

How Does UK Law Classify Directors – As Office Holders or Employees?

In UK company law, directors are considered office holders, meaning their role is created by statute rather than employment. This appointment does not automatically make them employees.

An office holder:

• Is appointed under company law rather than hired under a contract
• Does not have to follow typical employee working hours or holiday rules
• May or may not receive a salary, depending on their arrangement with the company

On the other hand, a director can also be an employee if they have a contract to perform additional functions beyond their statutory responsibilities.

Criteria	Office Holder	Employee
Legal Basis	Appointment under Companies Act 2006	Contract of employment (written, verbal, implied)
Nature of Work	Company governance and oversight	Operational or specific business functions
Employment Rights	Limited or none	Full statutory rights under employment law
Tax Treatment	Depends on how payments are structured	PAYE and National Insurance apply

The dual role is common in small limited companies, particularly where the director is also the business owner.

Can a Company Director Have an Employment Contract?

Yes, a director can have an employment contract when they take on duties beyond those associated with their directorship. In this case, they are recognised as an employee of the company as well.

An employment contract may be:

• Written: a formal agreement outlining duties, hours, and pay
• Verbal: less common but still legally binding
• Implied: inferred from the nature of the working relationship

Employment contracts provide directors with statutory rights such as minimum wage, paid leave, notice periods, and protection from unfair dismissal.

To determine whether a director is also an employee, courts and HMRC consider several factors, including:

• Whether the company has control over how the director performs tasks
• Whether there is mutual obligation to offer and accept work
• Whether the director is integrated into the business like other employees

Do Directors Receive a Salary or Dividends Or Both?

Directors can be compensated in various ways depending on their role and shareholding. A director who is also a shareholder may choose to receive income as both salary and dividends.

A salary is treated as earned income, processed through the company’s PAYE system. It is subject to income tax and National Insurance.

Dividends are distributions of profit to shareholders and are not subject to National Insurance. They must be paid out of company profits after Corporation Tax has been deducted.

Payment Type	Subject to PAYE	Subject to NICs	Tax Efficient	Requires Shareholding
Salary	Yes	Yes	No	No
Dividends	No	No	Yes	Yes

Many owner-directors adopt a structure where they take a small salary up to the personal allowance threshold and supplement their income with dividends to minimise tax liability.

What Are the Tax Responsibilities of a Director Who Is Also an Employee?

When a director is also classified as an employee, their tax position becomes more complex. They must ensure that income received through the company is correctly declared and taxed under UK law. This includes handling PAYE, National Insurance, and dividend income where applicable.

PAYE and Income Tax Obligations

Directors who receive a salary are subject to Pay As You Earn (PAYE), just like any other employee. Under PAYE, the company must deduct income tax and National Insurance contributions before paying the director.

HMRC requires directors to be registered under PAYE even if they are the only employee in the company.

Key responsibilities include:

• Submitting payroll reports to HMRC under the Real Time Information (RTI) system
• Ensuring accurate tax codes are used
• Reporting any benefits-in-kind (such as cars or private healthcare)
• Issuing payslips and P60s at the end of each tax year

Directors can also choose to calculate their National Insurance contributions annually, which helps manage cash flow when income is taken irregularly throughout the year.

National Insurance Contributions (NIC)

Directors’ NICs are calculated differently from those of ordinary employees. They can use an annual earnings period, meaning that their contributions are based on total annual income rather than weekly or monthly amounts.

• Class 1 NICs apply if the director earns above the Primary Threshold
• Employers also pay secondary Class 1 NICs on directors’ earnings
• Certain expenses and benefits may alter the total amount due

This system prevents directors who receive variable pay (for example, through bonuses or irregular salaries) from overpaying National Insurance in low-income months.

Self Assessment and Dividend Reporting

Even though income tax is deducted via PAYE, most directors must still complete an annual Self Assessment tax return. This is because they often have multiple sources of income, such as dividends, rental income, or capital gains.

In their Self Assessment, directors must:

• Declare all dividend payments received from the company
• Report any additional earnings outside the company
• Ensure the correct amount of dividend tax is paid

Dividend income is taxed separately from salary, with its own allowances and rates. The dividend allowance allows directors to receive a certain amount tax-free, but any dividends above this are subject to tiered tax rates depending on overall income.

Record-Keeping and HMRC Compliance

Directors must ensure that all financial records are accurate and up to date. This includes maintaining:

• Detailed payroll and dividend records
• Copies of payslips and P45/P60 forms
• Evidence of expenses and reimbursements
• Board minutes approving director payments

Good record-keeping is not only a legal requirement but also a safeguard in case of HMRC audits. Penalties may be applied if the company fails to correctly operate PAYE or file returns on time.

Is a Self-Employed Director Considered an Employee?

A self-employed individual can be a director of a limited company but is not necessarily considered an employee of that company.

If they do not have a contract of employment and are not integrated into the company like regular staff, they remain an office holder only.

This situation is common among freelance professionals who set up a limited company as a way to manage their income.

The director invoices clients through the company and pays themselves through dividends and/or a basic salary.

However, HMRC applies certain tests to distinguish between genuine self-employment and disguised employment, especially in cases where a personal service company (PSC) is used. The IR35 legislation is particularly relevant here.

A self-employed director will be considered an employee for tax purposes under IR35 if:

• The company they work for controls their work
• They are required to carry out work personally
• There is mutuality of obligation between them and the client

Can a Director Claim Employment Rights Like Other Employees?

A director can only claim employment rights such as sick pay, holiday pay, and redundancy if they have a valid employment contract.

Being appointed as a director without such a contract does not entitle them to these rights.

If a director is both an office holder and an employee, they may be eligible for:

• Statutory Sick Pay (SSP)
• Maternity or Paternity Leave
• Holiday pay under the Working Time Regulations
• Unfair dismissal protection after two years of continuous service
• Redundancy pay if dismissed due to lack of work

The eligibility for these rights will depend on meeting the standard criteria applied to all employees, including proof of continuous service and status as a worker.

How Do Executive and Non-Executive Directors Differ in Employment Terms?

Executive directors are often employees as well as office holders. They work full-time in the company and typically have an employment contract outlining their responsibilities, salary, and benefits.

Their daily involvement in business operations makes them eligible for employment rights if the contract exists.

Non-executive directors are typically not employees. Their role is to provide independent oversight and advice. They attend board meetings but do not engage in the company’s operations.

Key differences include:

• Executive directors often qualify for PAYE and employee rights
• Non-executive directors are paid fees, not salaries, and are usually self-employed for tax purposes
• Only executive directors are involved in line management or strategic execution

The distinction between the two also affects how payments are reported and taxed. A non-executive director’s fee may not go through payroll if they are self-employed.

What Are the Key Legal Obligations of All Directors Regardless of Employment Status?

Regardless of whether a director is an employee, self-employed, or purely an office holder, all directors in the UK must adhere to a strict set of legal obligations.

These are designed to ensure responsible management and protect the interests of shareholders, creditors, and the public.

Duties Under the Companies Act 2006

The Companies Act 2006 outlines seven core statutory duties that every director must follow:

1. Act within powers Directors must act according to the company’s articles of association and only use their powers for their intended purpose.
2. Promote the success of the company: Every decision should benefit the company as a whole, considering long-term consequences and the interests of employees, suppliers, and customers.
3. Exercise independent judgment: Directors cannot simply follow others’ directions without forming their own opinions.
4. Exercise reasonable care, skill, and diligence: A director must perform their duties to a standard expected of someone with their knowledge and experience.
5. Avoid conflicts of interest: Directors should not put personal interests before the company’s interests.
6. Not accept benefits from third parties: Any gifts or advantages that could influence decisions must be refused or declared.
7. Declare interests in proposed transactions:  Directors must inform the board of any personal or financial interest in company dealings.

These duties apply equally to executive and non-executive directors and are enforceable under law.

Filing and Reporting Requirements

In addition to personal conduct, directors have a range of administrative responsibilities related to maintaining the company’s legal standing. These include:

• Submitting annual accounts and confirmation statements to Companies House
• Ensuring Corporation Tax returns are filed with HMRC
• Keeping accurate accounting records for at least six years
• Maintaining statutory registers, such as those for shareholders and directors
• Notifying Companies House of any changes in directorships or registered office address

Failure to meet these filing obligations can result in penalties or even prosecution, as the company and its directors are jointly responsible for compliance.

Financial Responsibility and Fiduciary Duty

Directors have a fiduciary duty to act in good faith and in the company’s best interests. This means they must manage company resources responsibly and avoid actions that could harm the business or its creditors.

Examples of fiduciary breaches include:

• Using company assets for personal benefit
• Continuing to trade when the company is insolvent
• Providing misleading information to shareholders or creditors

If a director breaches these duties, they can face personal liability. In severe cases, they may be disqualified from serving as a director for up to 15 years under the Company Directors Disqualification Act 1986.

Compliance with Employment and Health & Safety Laws

Even if a director is not an employee, they must ensure that the company complies with all employment laws, including minimum wage, workplace safety, and data protection regulations. Directors are personally accountable for these matters and can be fined or prosecuted for non-compliance.

They must also ensure that appropriate insurance, such as Employer’s Liability Insurance, is in place. This coverage protects both the company and its employees in case of workplace accidents or legal claims.

Ethical and Governance Responsibilities

Beyond statutory obligations, modern corporate governance expects directors to act transparently and ethically. This involves:

• Ensuring fair treatment of all stakeholders
• Implementing effective risk management systems
• Maintaining the confidentiality of company information
• Preventing fraud, bribery, and corruption

By upholding strong ethical standards, directors help sustain investor confidence and the company’s long-term stability.

When Does a Director Need to Register for PAYE?

A director must be registered for PAYE if they are paid a salary that exceeds the Lower Earnings Limit, which is currently £6,396 for the 2023/24 tax year.

The company must set up a PAYE scheme through HMRC if:

• The director is paid regularly above the threshold
• The director receives benefits-in-kind such as company cars or private medical insurance
• Income tax and National Insurance need to be deducted at source

Directors can choose to calculate their National Insurance contributions on an annual basis rather than weekly or monthly, which can help smooth contributions across the year if they take irregular payments.

This requirement applies even if the director is the sole employee of the company. PAYE registration must be completed before the first payment is made to the director through payroll.

FAQs

What is the difference between an office holder and an employee in a limited company?

An office holder is appointed by law and has duties under the Companies Act. An employee works under a contract and is protected by employment law.

Can a sole director be on the payroll?

Yes. A sole director can be both the only employee and office holder and can pay themselves through the payroll system.

Are directors entitled to redundancy pay?

Only if they are also employees under a valid employment contract. Office holders without contracts are not eligible.

Do I need to pay National Insurance as a director?

Yes, if you receive a salary above the NI threshold. It is calculated differently using an annual earnings basis.

How can I prove I’m an employee and not just a director?

You must have an employment contract (written, verbal, or implied) and meet HMRC’s tests for employment, such as control, mutuality of obligation, and personal service.

Can a director be removed from the company if they are an employee?

Yes. As an office holder, a director can be removed by shareholder vote. As an employee, employment law would also apply regarding dismissal procedures.

Is dividend income taxed differently from salary?

Yes. Dividends are taxed at different rates and are not subject to National Insurance contributions, unlike a salary.