New Dividend Allowance: What you need to know

The Summer Budget 2015 announcement brought with it a few unexpected changes and one of the key ones that affects small business owners is the new Dividend Allowance which comes in from April 2016.

It has long been a legitimate tax planning strategy of limited company business owners, as well as freelancers and contractors, to draw a small salary from their company with the balance of money taken out being by form of dividends. As long as the individual’s personal income, including dividends, stayed below the higher tax band this would result in no personal tax on their dividends.

The new changes to the dividend system will come in from the 16/17 tax year (April 2016) and will now mean the below levels of personal tax on dividend income:

First £5,000 of dividends will be tax free (the ‘Dividend Allowance’). Thereafter:

7.5% on dividend income within the basic rate band

32.5% on dividend income within the higher rate band

38.1% on dividend income within the additional rate band

We have outlined some worked examples and calculations on our blog and HMRC have issued a fact sheet, but the key message is that as a limited company owner if you receive dividends you are likely to be paying more tax next year than you are now.

A small positive is that the dividend system will in some ways be simplified by the fact that the confusing ‘Dividend Tax Credit’ will be no more (this was a notional tax credit that caused a lot of confusion).

So what can you do about these changes? We have listed some ideas below:

• If you have sufficient profits you may want to consider taking additional dividends in the 15-16 tax year, which may attract personal tax but potentially at a lower rate than you would otherwise be paying in 16-17.

• If you have a spouse that is in full time employment at the higher rate of tax, under the old rules it may not have been tax efficient for them to own shares in your company and take a dividend. Under the new rules it may well be worth considering so they can make use of the £5k Dividend Allowance which may otherwise be wasted.

• Company pension contributions may be worth considering (make sure you talk to a pension advisor) as your company will usually save 20% corporation tax on them.

As with any tax and financial advice we would advise that you discuss your circumstances with a professional accountant before taking any action.

This post was provided by John Falcon, Director at JF Financial

Accountants for Small Businesses, Freelancers and Contractors