In the last two editions of this newsletter we have outlined the impact of the changes to the taxation of dividends that will commence 6 April 2016.
This month we want to continue to look at this major change as it affects the shareholder directors of private limited companies.
For 2015-16 any dividends drawn by shareholders that form part of their income taxed at the standard rate, will attract no personal tax on amounts taken. If the dividends form part of their income taxed at 40% or 45%, then the additional personal tax due is calculated as 32.5% or 37.5% respectively – of the gross dividend received – less the present 10% tax credit.
As previously discussed, from 6 April 2016, the way dividends are being taxed will change. The 10% tax credit is being abolished and each individual will have available a flat rate dividend allowance of £5,000. Any dividends received by an individual in excess of £5,000 will be taxed as follows:
- 7.5% if your dividend income is within the standard rate (20%) band
- 32.5% if your dividend income is within the higher rate (40%) band, and
- 38.1% if your dividend income is within the additional rate (45%) band
A director shareholder who presently receives a £27,000 net dividend as part of his remuneration package, and all of this income falls to be part of their standard rate band, then no additional tax is payable. With no change in strategy, for 2016-17 the same dividend will create an extra personal tax liability of £1,650.
This amount will usually form part of the director’s Self Assessment underpayment for 2016-17 and be due for payment 31 January 2018. On the same date the director will be required to make a payment on account for 2017-18; accordingly, the extra tax of £1,650 coverts into tax payable of £2,475 on 31 January 2018 (£1,650 plus 50% of this amount as payment on account for 2017-18), with a further 50% or £825 payable as a second payment on account 31 July 2018.
Should you compensate for this tax increase by increasing your salary? The answer would generally be no, as that would mean 12% employees’ NICs and 13.8% employers’ NICs. It may be possible to offset any additional employers’ NICs due by claiming the £2,000 Employment Allowance (£3000 from April 2016, but beware new restrictions from this date for “one-man” companies).
Unfortunately, in most, if not all cases, where dividend income is a significant part of your remuneration package, this change in legislation is likely to mean that you will pay more personal tax from April next year.
Interestingly, a higher rate tax payer receiving the same £27,000 cash dividend will only be £400 worse off.
It should also be noted that the £5,000 allowance is not an exception but a nil rate tax band. The full dividends still count as income e.g. for calculating the effect on personal tax allowances.
There are limited planning options, including changing the scale of dividends taken before 6 April 2016. Business owners need to plan for these tax increases and we recommend that you seek professional advice as soon as possible.