It’s messy and it looks complicated, but having a working knowledge of dividend tax is pretty important if you’re planning on running your own limited company. This week on the blog, we’ve laid out the basics while also taking a look at some of the changes that have been made to the dividend tax rules in 2016.
What is dividend tax, and why should I know about it?
Very simply, it’s the tax that you pay on any dividends that you withdraw from the company as a shareholder once you have made and retained sufficient profit. It is common for many businesses to pay their shareholders a reduced salary, and then top it up with a payment in dividends. By doing so, you keep your national insurance claims (NICs) at a lower rate, offering you the most tax efficient solution.
How much can I pay myself in dividends?
This is very much between you and your accountant, and it depends on a number of things. If you chose to, you could pay yourself as much as you wanted in dividends, providing you had the reserves available (and we’re talking profits after tax here, rather than whatever’s in your business account), but that wouldn’t be a tax efficient way of doing things. We’re sorry if it sounds like we’re passing the buck, but there really is no one-size-fits-all answer to this question. Chat to the guys at My Accountant Friend if you want to get into the nitty gritty.
How much dividends tax do I have to pay?
Until relatively recently, HMRC operated a 10% tax credit that did little more than confuse the bejeezus out of just about everyone. In this odd little scheme, tax on dividends was paid at 10% (for basic taxpayers) and 32.5% (for higher rate earners), but because of the tax credit, basic taxpayers actually paid 0% and higher rate payers paid 25%.
Are you still with us? Good.
From April of 2016, the tax credit was replaced by a new £5,000 ‘dividend allowance’. This means that you get your first £5k of dividends free of tax, and you only start paying dividends tax once you’ve exceeded that amount.
So, how much dividends tax do I have to pay once I’ve gone over the £5,000 threshold?
Obviously it depends on your tax band. Basic rate payers are charged 7.5% of the dividends they’ve taken, and that rises to 32.5% for higher rate tax payers. For additional rate payers, dividends tax is set at 38.1%.
How often can I pay myself a dividend?
In theory, you can pay yourself a dividend as often as you like, providing you have the profits after tax with which to do it. As an indicator, most of our clients choose to pay themselves dividends monthly. There are no fixed rules on this, however.
Note that every time you pay yourself a dividend, you must produce what’s known as a dividend voucher. My Accountant Friend’s software does this for you automatically – just one of the benefits of having an online accountant!
What would happen to me if I paid myself more in dividends than I actually have in profit?
While this isn’t exactly common, it’s not unheard of, especially when people are new to the workings of a limited company and assume that whatever is in their business account can be taken as a dividend. Neither is it unusual to find that it has happened to people who think they can deal with their end-of-year accounting without having taken regular advice (we know because we are often called in to clean up the subsequent mess!)
Essentially, this situation is known as an ‘illegal dividend’, but it can be put down as a ‘directors loan’, meaning it will have to be repaid to the company. Tax becomes eligible on a directors loan if it hasn’t been paid back within nine months of it being taken out.
Again, the great news for My Accountant Friend clients is that our software calculates the maximum amount your can take as dividends, meaning that you’ll never find yourself overdrawn and worrying.
If you’re not sure how best to work with dividends tax, what you’re eligible to take and how to make payments, drop us a line at My Accountant Friend and we can talk you through it.
