As noted in our previous blogs, the 2015 Summer Budget included the shock announcement that, from 6 April 2016, the tax rate on dividends will increase by 7.5%. It wasn’t all bad news though. The tax credit (equal to 1/9th of a dividend) which increases the taxable amount will be abolished. Also the first £5,000 of dividends you receive will be tax free. This means investors who receive modest dividend income will be better off. The government’s real targets for the higher tax are owners of small to medium-sized businesses who take a large part of their income as dividends.
How will the new tax work?
From April 2016 the Dividend Tax Credit will be replaced by a new tax-free Dividend Allowance.
The Dividend Allowance means that you won’t have to pay tax on the first £5,000 of your dividend income, no matter what non-dividend income you have.
The allowance is available to anyone who has dividend income.
Headline rates of dividend tax are also changing.
You’ll pay tax on any dividends you receive over £5,000 at the following rates:
7.5% on dividend income within the basic rate band
32.5% on dividend income within the higher rate band
38.1% on dividend income within the additional rate band
The Dividend Allowance will not reduce your total income for tax purposes. However, it will mean that you don’t have any tax to pay on the first £5,000 of dividend income you receive.
Dividends within your allowance will still count towards your basic or higher rate bands, and may therefore affect the rate of tax that you pay on dividends you receive in excess of the £5,000 allowance.
ISA dividends remain exempt and do not use up any of the £5,000 allowance.
It seems sensible for director shareholders to pay themselves extra dividends before the higher tax rate comes into effect in April 2016. However, it is likely that HMRC will look closely at the tax returns of director shareholders who receive larger dividends than usual in 2015/16. It will want to check that the dividends were actually paid in accordance with company law when the director shareholder said they were.
Give us a call or get in touch if you are in doubt about what to do!