If you own shares, it’s likely that the company will pay a dividend (a share of the profits). How dividends are taxed from April 2016 changes. It will affect you if you invest or own your own limited company.
How dividends were taxed before the change
Previously, you were given a 10% tax credit on dividends and if you were a basic rate taxpayer there was no extra tax to pay. However:
- Higher rate taxpayers paid tax at 25% on the dividends.
- Additional rate (45% tax) taxpayers paid 30.56% tax on dividends.
How dividends are taxed from April 2016
After April 6th 2016 you will be able to receive £5,000 a year in dividend payments without paying tax. But anything you receive above that is taxed. The rates are:
- 7.5% for any dividend payments in the basic rate tax band.
- 32.5% for any dividend payments in the higher rate tax band.
- 38.1% for any dividend payments in the additional rate tax band.
SAVVY TIP: This doesn’t apply to dividend payments from shares held within an ISA as these are free of tax.
BUDGET 2017 UPDATE: From April 2018 the dividend allowance will fall from £5,000 to £2,000.
Will you be better or worse off?
If you have a lot of shares that aren’t held within a stocks and shares ISA, and/or if you own a limited company and pay yourself a large dividend, you could be worse off after the tax change. However, if you have less than £5,000 a year in dividends from your investments, you won’t have to pay any tax.
How your tax is worked out
The government has published some information on its website about how dividends will be taxed after April 6th. There are several examples and I’ve used the ones that I think are most useful.
SAVVY TIP: The tax bands for 2016-17 are: the personal allowance is £11,000, the basic rate limit is £32,000 and the higher rate threshold is £43,000.
Alison earns £6,500 a year and receives £12,000 a year in dividend income from shares not held in an ISA. The personal allowance is £11,000. So, Alison uses up £6,500 of her personal allowance with her earnings, leaving her with £4,500 of her personal allowance ‘unused’.
The first £4,500 of her £12,000 dividend income is tax free because it’s under her personal allowance of £11,000. The next £5,000 is tax free via the new dividend allowance. This means that £9,500 of her dividend income is tax free, but she must pay tax on the remaining £2,500 (£12,000 minus £9,500).
Alison pays tax at 7.5%, giving her a tax bill of £187.50.
Barbara is employed and earns £20,000 a year. She also has £6,000 a year in dividend income from shares not held in an ISA. She pays tax on some of her earned income, so there’s no unused personal allowance available for her dividends (as there was with Alison’s example above).
However, Barbara will get the first £5,000 of her dividend income paid tax free by using her dividend allowance. She will have to pay tax at 7.5% on the remaining £1,000 of dividend income, which gives her a tax bill of £75.
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