From 6 April 2016, how you pay tax on dividends will change with the introduction of a new dividend tax.

New dividend tax may affect small business owners

The new dividend tax called the Dividend Allowance will replace the current scheme and may have a substantial impact on you if you’re a small business owner or own a large share portfolio paying dividends.

What are the changes?

The complex Dividend Tax Credit will be replaced with the new Dividend Allowance, which is simpler to understand but will prove more costly for some taxpayers.

Currently when dividends are paid, they attract no income tax up to the basic rate limit of £42,385. Beyond that, they are taxed at 25% up to £150,000 and then 30.56% beyond £150,000.

From April 2016 with the new dividend tax, the first £5,000 of your dividend income will be tax-free and above that, these new rates will apply:

• 7.5% (basic tax band)
• 32.5% (higher tax band)
• 38.1% (additional tax band).

What does the new dividend tax mean for me?

With the new dividend tax, almost all company owners will see an increase in tax.

As an example, a company director with an annual basic salary of £8,000 declaring cash dividends of £30,000 per year, currently pays no income tax on those dividends. From 6 April 2016, the first £5,000 will be tax-free and the remaining £25,000 will be taxed at 7.5%, meaning £1,650 in income tax payable.

For a husband and wife company declaring cash dividends of £30,000 each per year, this will therefore cost them £3,300 jointly.

The introduction of the new dividend tax has been met with mixed opinion. Critics see it as a harsh tax on entrepreneurs and small businesses that have buoyed the economy during the lean years. Whilst others suggest that small company directors have benefited from tax breaks not readily available to employees.

Next steps

If you’re a company director or have a share portfolio, it may be possible for you to take a one-off larger dividend before the increase in rates on 6 April 2016, however this would be dependant on your specific circumstances. Please contact your accountant to discuss this. If you’re a client of Perrigo Consultants, we’ll be looking at this with you.

If you’re a sole trader, choosing to become a company in the future may not be the best option for you from a tax perspective. Contact us on 01299 488860 if you would like to discuss the most suitable business structure for you and your business.

For more details on the new dividend tax, read HMRC’s Dividend Allowance factsheet.

Image courtesy of Sira Anamwong at FreeDigitalPhotos.net

Perrigo Consultants – Tax Advice Worcestershire West Midlands.

You might also like to read our Blog about the new digital tax system.