Taxing dividends

To reduce National Insurance costs, shareholders of small privately owned companies, who are also working directors of the company, can presently restructure their remuneration package to reduce their salary and make up the difference as dividend payments.

Unless this strategy is affected by the Budget at the end of this month, this remains one of the most useful ways for owner directors of small companies to reduce their overall tax and NIC costs.

Dividends are not considered to be a business cost. They don’t reduce the amount of profit assessable to corporation tax. Rather, dividends are a distribution of profits after corporation tax has been deducted. Presently, company reserves available for distribution in this way have already suffered a potential 19% corporation tax charge. Accordingly, only 81% remains. This can be retained to finance future investment or accumulated as a rainy-day fund to see you through more difficult trading periods. Alternatively, it is available to distribute to shareholders as dividends.

Consequently, the withdrawal of dividends creates no tax consequences for the company, but it can create income tax bills at one of three hybrid rates for shareholders.

For 2018-19, the following rules apply. Shareholders will pay:

  • No tax on the first £2,000 of dividends received from all sources.

As you will appreciate, as long as the dividends you take do not push your income after allowances above the basic rate tax band, then tax payable at 7.5% is modest. When dividends start to form your higher rate or additional rate tax band then the combined tax charge is much higher.

