For the 2016/17 tax year dividends will now be subject to tax. The article below explains the changes which we wrote for The North West Evening Mail
New Dividend Tax (2016/17 on)
Today we are looking at what I consider to be one of the biggest changes in the tax system during the last 10 years – The way in which dividends are to be taxed from 6 April 2016. The changes were announced last year and whilst the impact is not going to be until 2018 at the earliest understanding the increased taxation liability is crucial.Proposed changes:
- From April 2016, notional 10% tax credit on dividends will be abolished.
- A £5,000 tax free dividend allowance will be introduced.
- Dividends above this level will be taxed at 7.5% (basic rate), 32.5% (higher rate), and 38.1% (additional rate)
- Dividends received by pensions and ISAs will be unaffected
- Dividend income will be treated as the top band of income.
- Individuals who are basic rate payers who receive dividends of more than £5,001 will need to complete self assessment returns from 6 April 2016.
The proposed changes raise revenue despite the so-called "triple lock" on income tax. 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. It appears that the government is anti-small companies, preferring workers to be self-employed.
These changes will affect anyone in receipt of dividends: most taxpayers will be paying tax at an extra 7.5% p.a. Although the first £5,000 of any 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.
How does this work?
HMRC has now published its Dividend Allowance Factsheet with numerous examples however for small business owners the changes are likely to be extremely unpleasant. For example if a limited company makes profits of £70,500 and pays a basic salary of £8,000 (to ensure basic NIC benefits) and then declares a dividend of £50,000 to the shareholder there will be £2,800 of extra tax due.
The costs of these extra measures will decrease slightly when corporation tax falls in 2017 to 19% and 18% by 2020.
We have been discussing these changes with our clients for some time but if you are at all unsure, would like your numbers re-worked or possible mitigation please don’t hesitate to get in touch.