Since the Chancellor’s budget in July (my roundup is here), there has been a lot of talk on the changes to the taxation of company dividends. Extracting profit from a limited company through a combination of dividends and salary has long been a tax efficient method of gaining your reward for running a successful business. The new rules will ultimately increase the amount of tax you pay and adds much complication to an already overly complicated tax system.
How does it work?
Where under current rules, dividends are taxed at an effective rate of 0%, 25% and 30.55% depending if you are a basic rate, higher rate or additional rate tax payer. As of 6 April 2016, an extra 7.5% can be added to these rates meaning many will now find themselves with a tax liability at the end of the tax year where in previous years they had none.
Are there any concessions?
Yes, a £5,000 allowance has been introduced which allows you to receive £5,000 worth of dividends without paying any tax. This will however come out of your basic rate allowance, it is not a further tax free amount you can receive. In addition, the rate of corporation tax will fall to 19% from 1 April 2017 and 18% from 1 April 2018. This means you’ll pay less tax on your company’s profits. In addition, the personal allowance of £10,600 will increase to £11,000 meaning you can earn an extra £400 in the tax year without paying any tax.
Why is there such an uproar?
The new tax rules hit the small business owner straight in the pocket. Many felt the Conservative government would encourage economic growth through helping small businesses and rewarding innovation. This tax isn’t a tax on the most affluent members of society (where in fact rates have been cut in the past), it is a tax on the working man. Progressive taxation should not have the effect of placing a bigger tax burden on society’s lower earners.
Exactly how much will it hurt me?
For a sole director, sole shareholder limited company with profits of £40,000 a year, who draws out all of the company’s annual profits, under the current rules your tax liability (income tax, national insurance and corporation tax) totals around £6,000 per year. Under the new rules, your total tax liability will be around £7,100 making you £1,100 a year worse off.
What do I need to do?
Tax planning for the remainder of the 15/16 tax year (ending 5 April 2016) is now vital. Planning how to maximise your company dividends and making the most of your personal allowance is something you need to be doing now.
Should I still trade as a Limited Company?
The new rules may take away a lot of the tax benefits of trading as a limited company, however it still remains advantageous to a large number of traders. Couple with that the benefits of limited liability, disincorporation of your business is something which needs serious consideration.
You can contact me using the details below if you’d like to discuss the new dividend rules and find out how it will affect you in greater detail.