On the 24th March 2016 the Finance Bill 2016 published changes to the tax rules around limited company dividends

 You should read this as it applies to you if you are;
  • a sole director,
  • a subcontractor or
  • a director who uses dividends to supplement your income
What are the changes?
  • The 10% tax credit has been abolished from 6th April 2016
  • An annual tax free dividend allowance of £5,000 has been introduced to replace it
  • Dividends above £5,000 will be taxed at 7.5% (for basic rate tax payers), 32.5% (for higher rate tax payers), and 38.1% (for higher rate tax payers who are subject to the additional tax rate)
  • Dividends received by pensions and ISAs are NOT affected by this change
  • Dividend income will be treated as the TOP band of income.
  • If you are a basic rate tax payer and receive dividends of more than £5,001 then you will need to complete a self assessment tax return for 2016/2017 tax year.
Impact

The proposed changes are perhaps aimed to tax small companies who pay a small salary designed to preserve entitlement to the State Pension, followed by a much larger dividend payment in order to reduce National Insurance costs. This appears to be an anti-small limited company policy in favour of workers being self-employed.

On the other hand it will benefit and encourage small investors as the first £5,000 of dividend will be tax free.

The government says that 95% of tax payers will be unaffected and more than three-quarters of all those who receive dividend income ‘will either gain or be unaffected by these changes’.

The changes will mean anyone in receipt of dividends over £5,000 will lose out: most taxpayers will be paying tax at an extra 7.5% p.a. Even though the first £5,000 of dividend is tax free, in 2016/17:

  • Upper rate taxpayers will pay tax at 38.1% instead of an effective rate of 30.55% in 2015/16
  • Higher rate taxpayers will pay tax at 32.5% instead of an effective rate of 25% in 2015/16
  • Basic rate taxpayers will pay tax at 7.5% instead of 0% in 2015/16

This measure will have a very harsh effect on those who work with spouses in very small family companies. For example, a couple splitting income of £100,000 p.a. could be over £5,000 p.a. worse off.

If you would like more information on dividends or the best way to take money out of your business contact our specialist team.