RegulationAug 21 2015

Summer Budget 2015’s a new dividend tax

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Summer Budget 2015’s a new dividend tax

The chancellor expects to collect £2.5bn in additional tax in the 12 months from April 2016 from his new dividend taxation plan. Not yet enshrined in law, how is dividend taxation likely to change and how can investors avoid the potential of additional tax pain?

How it works now

The taxation of dividends has always been one of the more complex issues to get to grips with. The new system announced in George Osborne’s summer Budget, is simpler, but to understand it, we need to start with the current situation.

Dividends are a distribution of company profits, made after corporation tax has been deducted. As such, dividends from UK shares and stock market funds are received by the shareholder net, as though basic-rate tax has already been deducted. The dividend comes with a 10 per cent dividend tax credit, which can be offset against personal tax liabilities but not reclaimed by non-taxpayers.

A £1,000 net dividend received by an investor is accompanied by a tax credit of £111. The gross dividend is the combined net dividend and tax credit, in this case £1,000 + £111 = £1,111.

This gross income is added to other taxable income and taxed accordingly. The tax credit recognises that corporation tax has been paid on the dividend before declaration and reduces the impact of double taxation.

In the case of non-taxpayers and basic-rate taxpayers, the personal tax liability on the gross dividend is deemed to have been satisfied by the 10 per cent tax credit. Higher and additional-rate taxpayers have an additional liability, part of which can be offset by the tax credit, as illustrated in Table 1.

How it will work

From 6 April 2016, dividends will continue to be paid after corporation tax is deducted. What is now treated as a net dividend will become a gross dividend with no accompanying dividend tax credit – these will be abolished.

Instead, all taxpayers will have a tax-free dividend allowance of £5,000 a year. This is in addition to the personal allowance and personal savings allowance. The dividend allowance applies to taxable dividends and not tax-free dividends such as from Isa or Venture Capital Trusts (VCTs). After this, the rate of tax payable on dividends will depend upon other taxable income as at present and there will be special tax rates applicable to dividend income. Essentially, once you start to pay tax on dividends, the personal tax liability for taxpayers increases by 7.5 percentage points compared to the position today This is shown in Table 2.

Dividends will all be paid gross and tax liabilities assessed and paid through self-assessment.

Winners and losers from the dividend tax change