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Finance Bill 2015 changes to Dividend Tax

Posted by
17 Jul 2015

Following George Osborne's first Conservative Budget last week, he announced a new tax on share dividends which has led to a number of concerns being voiced from shareholders.

Previously each dividend had a tax credit applied in recognition of the company having paid corporation tax on their profits - this will now be abolished.

Basic-rate taxpayers historically had no further liability whilst effective tax rates were 25% for higher taxpayers and 30.56% for additional-rate taxpayers, after the 10% tax credit had been applied. This has now be replaced with what George Osborne has described as a simplification of the tax rules around dividend income.

So what exactly are the changes?

From April 2016 the first £5,000 of dividend income in each tax year will be tax-free then charged at 7.5% for basic-rate taxpayers; 32.5% for higher-rate taxpayers and 38.1% for additional-rate taxpayers. There will be no change to accounting for this tax which must continue to be calculated as part of a self-assessment.

The above tax rates do not include dividends received through pension or ISA Holdings, these remain unaffected. Therefore the majority of investors should not be affected by the changes unless they had more that circa £140,000 in shares outside their pension's schemes or ISA's.

By way of an example, should you received dividends of £16,000 in the 2016/17 tax year and no other income, then the first £5,000 would be tax free by the new dividend allowance and the next £11,000 would still be eligible for your personal allowance, therefore you would pay no tax.

Implications for owner managed businesses

George Osborne has said that the reforms were targeted at those people who incorporate and pay the lower rates of tax due on dividends.

Whilst the new rates remain below the main rates of income tax and are not subject to national insurance, they will still result in an investor who owns a significant shareholding paying more tax overall under the new system.

The changes will put pressure on small business owners who traditionally use dividends to pay themselves in order to mitigate their tax liabilities. We will also need to wait to see if the changes may also see a reduction in the number of entrepreneurs setting up new businesses. However, the new dividend tax may encourage more people to save and invest in pensions and share ISA's.

Government expectations

The tax on dividends has not been changed since the 1970s despite a decrease in corporation tax rates paid by companies on profits. If George Osborne's plans to continue to lower the rate of corporation tax in the future, then changes to dividend tax were inevitable for the Treasury to maintain tax revenues.

With these changes in tax on dividends, the Treasury expect to raise an additional £2.5 billion next year and £6.8 billion over the next five years. It clearly represents a significant tax increase for owners of small and medium businesses who pay themselves via a combination of salary and dividends. Although those investors who haven't used up their pension and ISA allowances could transfer shares into these packages.

If you would like further information on these changes please visit Gov.uk.

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