- Written by Louise Tattershall
The New Taxation of Dividends – How Will it Affect You?
In July 2015, the first budget of the new Conservative Government in the last two decades, announced significant changes to the way dividends are taxed.
The Chancellor George Osborne described this as a “Budget for working people’. The proposed changes to the taxation of dividends will undoubtedly affect those the budget was reported to assist. The effect is an acceleration in tax and attack on the people it is looking to assist.
Recent years have seen owner managed companies extracting the majority of their income via dividends, from post taxed profits retained within their company. Alongside this, they have been remunerated with modest salaries. This has enabled a basic rate tax payer to extract income of approximately £41,865, for the 2014/15 tax year, whilst paying minimal, if any income tax.
The Chancellor wants to bridge the gap between people trading through small companies and unincorporated entities.
From 6 April 2016 these changes will come into effect.
The new legislation has brought in a new dividend tax free allowance of £5,000. This credit will enable all individuals, regardless of their marginal rate of tax, to receive dividends up to £5,000 tax free. Beyond this amount, tax will be payable at the following rates:
• Basic rate band – 7.5%
• Higher rate band – 32.5%
• Additional rate band – 38.1%
The following example illustrates how this will work in practice:
During 2015/16 an individual receives a salary of £10,600 and net dividends of £28,000. The salary would be covered by the personal tax allowance and dividends would not attract any additional income tax.
During 2016/17 using the same scenario the taxpayer would receive the salary tax free as it would be covered by the personal tax allowance. £5,000 of the dividends fall within the ‘dividend tax free allowance’, the balance would attract an income tax charge on the individual of £1,725 (£23,000 at 7.5%). Thus reducing their disposable income by this amount.
The outlined changes and figures above illustrate how this will affect small businesses and their directors.
The above is a simplified example of how this will work but the affect this will have on all individuals in receipt of dividend income is significant.
In addition to the tax charges applied to dividend income there are additional affects. At present dividend income is grossed up by a 10% tax credit. From 6 April 2016 this will also be abolished.
Currently, for income purposes, which is particularly relevant when applying for a mortgage, an individual who receives a dividend of £20,000 in their hand is deemed to have received a gross dividend of £22,222, with a tax credit of 10%. Therefore, their income is inflated.
From 6 April 2016, this will change and income will only be £20,000. This will no doubt affect income multipliers when applying for a mortgage.
Each case is different and needs to be reviewed in isolation.
If you would like to discuss your individual position, please contact a member of the team at Spirare Limited for a free, no obligation meeting.