Winners and losers: dividend changes have company owners divided - guest blog by Derek Mair of Hall Morrice LLP.

Winners and losers: dividend changes have company owners divided - guest blog by Derek Mair of Hall Morrice LLP.

Our latest guest blog has been written by Derek Mair, who is a partner at Aberdeen-based independent chartered accountants Hall Morrice LLP www.hall-morrice.co.uk. Today he lends his expertise on the subject of recent dividend changes.

There are winners and losers in every Budget, and unfortunately small business owners could be left feeling the pain of George Osborne’s decision to make changes to dividend tax.

It was no secret that the Chancellor planned to implement the change – the draft legislation was published at the tail end of last year following an announcement in the summer Budget – but the way in which dividend income is taxed was officially transformed on April 6.

The Government claims the changes will benefit - or at least maintain the status quo – for around 95% of taxpayers, and that only those with significant dividend income will pay more tax.

However, it could affect many thousands of small business owners as they will almost certainly see an increase in the amount of tax they will have to pay.

This is largely because a great number of owner-operators in smaller companies take income as a mixture of salaries and dividends.

The previous system, which most accountants would probably agree to be relatively complex, allowed for dividends to be received with a notional tax credit of 10%.

This system has now been abolished. 

Every individual will now receive an annual £5,000 tax-free limit – effectively a zero rate tax band - for dividend income. 

This means that after the personal allowance has been taken into account – now £11,000 for those entitled to the full amount – company owners can receive £5,000 of dividend income with no tax to pay.

However, dividend income over the £5,000 tax-free limit will be subject to tax. This will be applied at varying rates – 7.5% for basic rate; 32.5% at higher rate and 38.1% at additional rate. 

To put this into context, let’s look at an example where a company owner draws a salary of £11,000 along with a dividend income of £50.000:

• The salary of £11,000 takes up the entire personal allowance
• The first £5,000 of the £50,000 dividend is tax-free
• The next £27,000 of the dividend is taxed at basic tax rate of 7.5% - this results in a tax liability of £2,025
• The remaining £18,000 of the dividend is taxed at the higher rate of 32.5% - this results in a tax liability of £5,850

The overall tax bill in this case is £7,875 – this equates to over £2,500 more than had this calculation been made on the ‘old’ system.

It’s important to note that dividends which are received by way of pensions and ISAs will be unaffected by the changes.

As with almost any taxation issue, there is never a one size fits all solution. It’s always best to consult with your accountant to make sure your business is operating in a tax efficient manner and following the letter of the law.

If you would like to find out more information about dividends and what these changes may mean for your business, don't hesitate to speak to your business adviser (phone us at 01224 289700 if you haven't already got one), or Hall Morrice on 01224 647394.