How Does Corporation Tax Work: The Definitive Guide for UK Limited Company Directors

If you run a limited company in the UK, you pay corporation tax on your profits. It's not optional. It's not like income tax where you file a return once a year and hope for the best. Corporation tax has its own rules, rates, deadlines, and penalties. Get it wrong and HMRC will find you.

This guide answers the question how does corporation tax work from first principles. It is written for directors of small and growing limited companies, contractors working through their own Ltd, sole traders considering incorporation, and partnership owners wondering whether to make the switch. We are ICAEW qualified accountants based in the UK. We deal with corporation tax every working day.

By the end of this pillar you will know the current rates, how to calculate your liability, what forms to file, when to pay, and how to reduce your bill legitimately. Let's start with the basics.

What Is Corporation Tax and Who Pays It

Corporation tax is a direct tax on the profits of UK-resident companies. It applies to limited companies, foreign companies with a UK branch or permanent establishment, and some unincorporated associations and clubs. It does not apply to sole traders or partnerships. Those businesses pay income tax and National Insurance instead.

Which Entities Are Liable

If you have incorporated your business as a private limited company (Ltd), you are within the corporation tax net from day one. The same applies to public limited companies (PLCs), limited liability partnerships (LLPs) that are treated as companies for tax purposes, and certain co-operative societies. If you trade as a sole trader or an ordinary partnership, you are outside the corporation tax regime. You pay income tax and Class 2 and Class 4 NIC on your profits instead.

What Profits Are Taxed

Corporation tax is charged on your company's chargeable profits. This means:

• Trading profits (income from selling goods or services, less allowable expenses)
• Investment income (bank interest, rental income from property, dividends received from other UK companies)
• Chargeable gains (profits from selling assets like property, shares, or goodwill)

Dividends your company receives from other UK companies are generally exempt from corporation tax. This is the exempt dividend regime and prevents double taxation of corporate profits.

The Accounting Period Concept

Corporation tax is assessed by reference to accounting periods, not tax years. An accounting period is typically 12 months long and ends on your company's accounting reference date. If you incorporate mid-year, your first accounting period may be longer or shorter than 12 months. Each accounting period is a separate chargeable period. You file a separate CT600 return for each one.

Current Corporation Tax Rates for 2025/26

The corporation tax rate structure changed from 1 April 2023. Before that, the main rate was 19% for all companies. Now we have a three-tier system based on profit levels.

Profit Level (per accounting period)	Corporation Tax Rate	Effective Marginal Rate
Up to £50,000	19% (small profits rate)	19%
£50,001 to £250,000	Marginal relief applies	26.5% (on the slice between £50k and £250k)
Above £250,000	25% (main rate)	25%

The £50,000 and £250,000 thresholds are proportionately reduced if your accounting period is shorter than 12 months. They are also divided by the number of associated companies in your group. If you have one associated company, the thresholds halve: £25,000 and £125,000. If you have two, they reduce to £16,667 and £83,333. You must count all UK-resident companies under common control, including dormant companies.

Worked Example: Marginal Relief Calculation

Let's use a realistic example. Manchester Digital Solutions Ltd has taxable profits of £127,400 for the year ended 31 March 2026. It has one dormant associated company. The thresholds are halved: £25,000 and £125,000. Profits of £127,400 are above the upper threshold, so the company pays 25% on all profits. Corporation tax bill: £31,850.

Now suppose the same company has no associated companies and profits of £127,400. The profits fall between £50,000 and £250,000. Marginal relief applies. The calculation is:

• Corporation tax at 25% on £127,400 = £31,850
• Marginal relief: (Upper limit - profits) x (3/200) = (£250,000 - £127,400) x 0.015 = £1,839
• Final tax bill: £31,850 - £1,839 = £30,011

The effective rate on total profits is 23.6%. The marginal rate on the slice between £50,000 and £127,400 is 26.5%. That is the price of growing through the relief band.

How to Calculate Your Corporation Tax Liability

Calculating corporation tax is not simply applying a rate to your sales. You must start with your accounting profit and adjust it for tax purposes. This is where many directors get caught out.

From Accounting Profit to Taxable Profit

Your company's annual accounts show a profit before tax. This is calculated under UK GAAP (generally accepted accounting practice) or FRS 102. For tax purposes, you must adjust that figure:

• Add back: depreciation, amortisation of goodwill, entertaining (except staff entertaining), fines and penalties, political donations, capital losses
• Deduct: capital allowances (instead of depreciation), qualifying charitable donations, certain R&D expenditure

The result is your tax-adjusted trading profit. Add any chargeable gains and investment income. Deduct any brought-forward losses (subject to the £5 million or 50% restriction). The final figure is your taxable total profits.

Capital Allowances vs Depreciation

Depreciation is not deductible for corporation tax. Instead, you claim capital allowances on qualifying plant and machinery. The main rates are:

• Annual Investment Allowance (AIA): 100% relief on the first £1,000,000 of qualifying expenditure per year (until 31 March 2026, then confirmed at £500,000 from April 2026)
• Full Expensing: 100% relief on main-rate plant and machinery (new, not second-hand) for limited companies. This is permanent from 1 April 2023.
• Special Rate Pool: 6% per year on integral features, long-life assets, and cars with CO2 emissions above 50g/km
• Main Rate Pool: 18% per year on general plant and machinery not covered by AIA or Full Expensing

If you buy a new laptop for £1,200, you can claim Full Expensing and deduct the full £1,200 from your profits in the year of purchase. If you buy a second-hand van for £18,000, you claim AIA and deduct the full amount. Capital allowances are a powerful tool for reducing your tax bill.

Worked Example: Capital Allowances in Action

Bristol Printworks Ltd makes up accounts to 31 March 2026. Its accounting profit is £92,800. Depreciation charged in the accounts is £14,200. The company spent £23,000 on a new printing press (qualifying for Full Expensing) and £8,500 on office furniture (AIA).

Tax-adjusted trading profit:

• Accounting profit: £92,800
• Add back depreciation: +£14,200
• Less Full Expensing: -£23,000
• Less AIA: -£8,500
• Tax-adjusted profit: £75,500

The company also has £3,200 of bank interest. No chargeable gains. Taxable total profits: £78,700. At the small profits rate (19%), corporation tax is £14,953. Without the capital allowances, the bill would have been £21,090. That is a saving of £6,137.

Corporation Tax Filing and Payment Deadlines

Corporation tax has two separate deadlines: one for paying the tax, one for filing the return. They are not the same. Missing either one triggers penalties.

Payment Deadline

Corporation tax is due for payment 9 months and 1 day after the end of your accounting period. For a company with a 31 March year end, payment is due by 1 January of the following year. For a 31 December year end, payment is due by 1 October.

You pay by BACS, CHAPS, Faster Payment, or direct debit. HMRC's bank details are on the CT41G letter you receive after incorporation. Do not wait for a bill. HMRC does not send one. You must calculate and pay the tax yourself.

Filing Deadline

The corporation tax return (CT600) and full statutory accounts must be filed with HMRC within 12 months of the end of the accounting period. For a 31 March year end, the filing deadline is 31 March the following year. This is a hard deadline. Extensions are rare and require a formal application before the due date.

Penalties for Late Filing and Late Payment

Late filing penalties are automatic and escalate:

• 1 day late: £100
• 3 months late: additional £100
• 6 months late: 10% of the unpaid tax (minimum £300)
• 12 months late: 10% of the unpaid tax (minimum £300), with potential for 20% in serious cases

Late payment interest is charged at the Bank of England base rate plus 2.5%. As of April 2025, that is 6.75% per annum. HMRC also charges late payment penalties on tax unpaid after 30 days, 6 months, and 12 months.

How to File Your Corporation Tax Return (CT600)

The CT600 is the main corporation tax return form. It is filed electronically through HMRC's online service or via commercial software. You cannot file a paper CT600 unless HMRC has specifically agreed.

What You Need to File

Alongside the CT600, you must submit:

• Statutory accounts: balance sheet, profit and loss account, notes to the accounts, directors' report
• Tax computation: a schedule showing how you arrived at the taxable profit from the accounting profit
• Supporting schedules: for example, a capital allowances computation, loan relationships analysis, or R&D claim summary

Most accounting software packages (Xero, QuickBooks, FreeAgent, Sage) can generate the basic CT600. For the tax computation, you typically need specialist software like Iris, TaxCalc, or a manual spreadsheet prepared by your accountant.

Associated Companies and Group Returns

If your company is part of a group, you must disclose all associated companies on the CT600. This affects the marginal relief thresholds. If you have multiple companies, consider filing a group payment arrangement to nominate one company to pay tax on behalf of the group. This simplifies administration but requires HMRC approval.

Allowable Expenses and Disallowable Costs

Understanding what you can and cannot deduct is critical. HMRC scrutinises expenses closely. Claiming disallowable costs is a common trigger for enquiries.

What Is Allowable

An expense is allowable if it is wholly and exclusively for the purposes of the trade. Common allowable expenses include:

• Staff salaries, employer's NI, pension contributions
• Rent and business rates for your trading premises
• Utilities, phone, internet
• Professional fees (accountancy, legal, consultancy)
• Insurance premiums
• Travel costs (but not ordinary commuting)
• Subsistence (reasonable meals when travelling for business)
• Marketing, advertising, website costs
• Office supplies, stationery, postage
• Bank charges and interest on business loans
• Repairs and maintenance (but not improvements)

What Is Not Allowable

The following are never deductible for corporation tax purposes:

• Depreciation and amortisation (use capital allowances instead)
• Client entertaining (50% deductible for staff entertaining only)
• Fines and penalties
• Political donations
• Capital expenditure (buying assets, improving premises)
• Dividends paid to shareholders
• Directors' loan account write-offs (except in limited circumstances)

Common Mistakes Directors Make

We see the same errors repeatedly. Claiming the full cost of a mixed-use asset (like a car used partly privately) without apportioning. Treating a capital improvement as a repair. Including entertaining costs without separating client and staff elements. Forgetting to add back depreciation. If you are unsure about a specific expense, check with your accountant. The cost of getting it wrong is interest and penalties.

Corporation Tax Reliefs and Deductions

The UK tax system offers several reliefs to reduce your corporation tax bill. Some are widely used. Others are specific to certain activities.

Research and Development (R&D) Tax Credits

If your company undertakes qualifying R&D, you can claim enhanced deductions. From accounting periods starting on or after 1 April 2024, the merged R&D scheme applies to most companies. The enhanced deduction rate is 86% of qualifying R&D expenditure. For a company paying 25% corporation tax, this gives a net benefit of 21.5p per £1 spent. Loss-making R&D-intensive companies may qualify for the Enhanced R&D Intensive Scheme (ERIS) which offers a payable credit of 14.5% of the surrendered loss. See our R&D credits page for full details.

Creative Sector Reliefs

Companies in film, television, video games, theatre, and animation can claim additional reliefs. These include Film Tax Relief (FTR), Television Tax Relief (TTR), Video Games Tax Relief (VGTR), Theatre Tax Relief (TTR), and Children's Television Tax Relief (CTTR). Each has specific qualifying criteria and rates.

Patent Box

If your company has patented inventions, the Patent Box allows you to apply a reduced 10% corporation tax rate on profits attributable to those patents. You must elect into the regime and meet the development condition. This is a valuable relief for technology companies.

Charitable Donations

Donations to registered UK charities are deductible for corporation tax. The company must make the donation directly. Donations through a payroll giving scheme are also allowable. There is no limit on the amount, but you must have sufficient taxable profits to cover the deduction.

Corporation Tax for Different Business Structures

How does corporation tax work if you are a sole trader considering incorporation? Or a partnership thinking about converting to a limited company? The answer depends on your profits and personal circumstances.

Sole Trader vs Limited Company

A sole trader pays income tax and Class 2 and Class 4 NIC on profits. A limited company pays corporation tax on profits and then the director pays income tax and NIC on salary and dividends drawn. The total tax burden is often lower for a limited company, especially on profits above £50,000. But there are additional costs: annual accounts, CT600 filing, payroll, and more complex administration. The break-even point varies. As a rough guide, once your profits exceed £40,000 to £50,000, incorporation starts to make financial sense. Use our tax calculators to model your specific situation.

Partnership to Limited Company

Converting a partnership to a limited company involves transferring the trade and assets to the new company. This can trigger capital gains tax on goodwill and other assets. However, incorporation relief may defer the gain if you receive shares in the new company. You need to value the business and agree the consideration. This is a specialist area. Read our incorporation guide for the full process.

Contractors and IR35

Contractors working through their own limited company must consider IR35. If your contract is inside IR35, you pay tax and NIC as if you were an employee. The deemed employment payment is subject to income tax and employer's NIC, reducing the advantage of incorporation. Medium and large clients determine your IR35 status. Small clients leave the determination with you. If you are outside IR35, you can draw dividends and benefit from the lower corporation tax rate on retained profits.

How to Pay Corporation Tax

Payment is straightforward but requires planning. HMRC does not send invoices. You must calculate the amount and pay it on time.

Methods of Payment

• Faster Payment: same-day transfer, free, up to £1,000,000 typically
• CHAPS: same-day, fee applies (usually £20-£30), no upper limit
• BACS: takes 3 working days, free, not recommended for deadline payments
• Direct Debit: can set up for corporation tax, but only for future payments, not arrears
• Debit or credit card: online via HMRC, fee for credit cards

Use the HMRC bank details on your CT41G letter. Do not use old details from a previous year. Check the reference number carefully. A wrong reference means the payment is not allocated to your company.

What If You Cannot Pay on Time

If you cannot pay the full amount by the deadline, contact HMRC immediately. You can request a Time to Pay arrangement. HMRC will consider your cashflow position and may agree a payment plan. Interest continues to accrue. Late payment penalties apply if you do not have an agreed plan. Do not ignore the problem. HMRC's enforcement powers include winding-up petitions and director penalty notices.

Action Checklist for Directors

Use this checklist to stay on top of your corporation tax obligations.

• Know your accounting period end date. Mark the payment deadline (9 months + 1 day) and filing deadline (12 months) in your calendar.
• Set aside cash for corporation tax. Open a separate savings account if needed. Aim to have the full amount ready 2 months before the payment deadline.
• Prepare your annual accounts promptly. Do not leave them to the last month before the filing deadline.
• Review capital expenditure before your year end. Can you buy qualifying assets and claim Full Expensing or AIA to reduce your tax bill?
• Check for associated companies. If you have dormant companies or subsidiaries, their existence reduces your marginal relief thresholds.
• Claim all reliefs you are entitled to. R&D, Patent Box, creative sector reliefs, charitable donations. Do not leave money on the table.
• File your CT600 and accounts on time. Set a reminder 3 months before the filing deadline.
• Pay the tax on time. Use Faster Payment on the day before the deadline to be safe.
• Keep good records. HMRC can open an enquiry up to 12 months after you file. You need to support every figure in your return.
• Speak to your accountant if anything changes. New associated company? Large asset purchase? Change of year end? These all affect your corporation tax position.

If you need help with any aspect of corporation tax, from filing your CT600 to planning your tax strategy, get in touch with our team. We work with limited companies across the UK, from Shoreditch startups to Manchester manufacturers to Bristol creative agencies. We know the rules, the reliefs, and the pitfalls. And we know that getting corporation tax right is not optional. It is essential.