What are the changes?
From April 2016, the current 10% tax credit that exists on dividends will be abolished along with the existing regime. Instead, all dividends can be received tax free up to £5,000 – anything above that will be taxed at 7.5% (basic rate), 32.5% (higher rate) and 38.1% (additional rate).
How will this affect those in receipt of dividend income?
If your dividend income is £5,000 per year or less, you will pay no tax on the dividends you have earned, regardless of whether you are a basic rate or higher rate tax payer. For higher earners with low levels of dividends this new allowance will ensure they are actually better off. However, higher earners with dividends in excess of £5,000 are going to feel the pinch from these changes. Director shareholders of owner management companies are particularly likely to suffer as they may historically have been taking low wages and topping up their income with dividend payments. Any individuals, including pensioners, who currently rely on an investment income are also likely to see an increase in their tax liabilities.
Even basic rate tax payers aren’t safe. Looking at a quick example of old versus new rules, if you are a basic rate taxpayer that receives all taxable income in the form of dividends, you would previously have paid no personal tax on that income. However, under the new rules, you could have a tax liability of up to £2,025.
Why? Because dividends are now subject to 7.5% tax within the basic rate tax band. The basic rate threshold for 2016/17 is £43,000 (personal allowance of £11,000, plus basic rate tax band of £32,000). For an individual receiving dividend income of £43,000, the first £11,000 is covered by personal allowance, the next £5,000 is covered by the new dividend allowance and then the remaining £27,000 will be taxed at the new 7.5%. Thus, £2,025 of tax is due.
What can you do to prepare for the changes?
There are still a couple weeks left to make the most of the old tax regime if you are in a position to vote dividends; for example if you own and manage your own company and have sufficient distributable reserves. However, if this is the option you choose, you will need to weigh up the cash flow implications as an income tax liability will fall due. If you run a smaller company this is particularly relevant though you may be in a position to lend money back to your company.
If you are likely to be affected by the upcoming dividend changes, then do contact a member of the tax team at your local Wilkins Kennedy office, who would be happy to help.
Press Release, Authored by Naomi Nesbit, Tax Partner
Corporate Tax Manager
For and on behalf of Wilkins Kennedy LLP London
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