How are dividends taxed and what are the tax rates?

6 min Read Published: 26 Apr 2021

What is a dividend?

If a limited company has made a profit it can distribute this profit, or part of it, to its shareholders by paying a dividend. A limited company can only pay a dividend if it has made a profit in the tax year or the balance sheet shows retained profits from previous years. Profit is the amount of money left after paying business expenses and liabilities.

How are dividends paid?

If your company wants to pay a dividend then a meeting of directors must be held to "declare" the dividend.

A record must be kept of all dividends paid including the following:

  • names of shareholders being paid a dividend
  • date the dividend is paid
  • amount of dividend paid to each director

Using online accounting software records dividend payments simply and quickly. If your company does not already use online accounting software then read our article - What is the best online accounting software for small business?

How are dividends taxed?

Any shareholder in receipt of a dividend may have to pay income tax depending on their personal circumstances. If you are a director of a limited company and are paid a dividend then this can be a tax-efficient way of receiving income. There are no National Insurance Contributions payable on dividend income and the calculation of the income tax liability is explained later in this article.

What is the dividend tax-free allowance?

As an individual, you can currently receive maximum dividends without paying income tax of £2,000. This amount is in addition to your personal income tax allowance of £12,570 (2021/22).

What are the dividend tax rates for 2021/22

If dividends received in a tax year exceed the £2,000 tax-free allowance, and you have used up your personal allowance from other income sources, then your dividend income will be taxed at the following rate.

Income tax band Dividend tax rate
 Basic Rate 7.5%
 Higher Rate 32.5%
 Additional   Rate 38.1%

How do I calculate my dividend tax bill?

To calculate the income tax payable on dividends received make the following calculation:

  • The first £2,000 of dividend received is tax-free
  • The first £12,570 of income from other sources is received tax-free
  • An income tax rate of 7.5% is payable on dividends received between £2,000 and £37,700
  • An income tax rate of 32.5% is payable on dividends received between £37,701 and £150,000
  • An income tax rate of 38.1% is payable on dividends received in excess of £150,000

The order of taxation of any income received is important. Generally speaking income from employment, trading or property are taxed first. That means that they use your personal allowance first. Earnings from savings income and then dividend income are taxed next. That means that the rate at which your dividends are taxed is dependent upon the level of income you receive from other sources.

When is dividend tax payable?

Any dividends received by an individual must be declared in your Self Assessment income tax return for the tax year in which it was paid. Dividend payments will be added to any other income for the tax year and any income tax due must be paid on or before 31st January of the following year.

If you are a director of a company and have some control over when dividends are paid then you can use this control to mitigate the tax liability on your dividend.

As an example, if it is close to the tax year end and receiving the dividend immediately would put you over the Higher Rate tax threshold you could delay the dividend payment until the next tax year and reduce your tax liability for the current tax year. Remember the tax year for your personal income tax may be different from the tax year for your company accounts and you should keep this in mind when deciding on the payment date for dividends.

How do I pay my dividend tax bill?

Any dividend received must be declared on your Self Assessment income tax return and any income tax liability is calculated as described above. Payment can be made by bank transfer, debit card, direct debit or cheque.

 

Examples of dividend tax liability for 2021/22 tax year

A company director with a salary of £10,000 and a dividend income of £45,000 will pay the following income tax in the year 2021/22 (Personal Allowance £12,570).

 Income  Type  Income Tax Rate  Tax due
 First £10,000  Salary  Personal Allowance  Nil
 Next £2,570  Dividend  Personal Allowance  Nil
 Next £2,000  Dividend  Dividend Allowance  Nil
 Next £35,700  Dividend  Basic Rate Dividend tax of 7.5%  £2,677.50
 Next £4,730  Dividend  Higher Rate Dividend tax of   32.5%  £1,537.25
 Total Income tax   payable
 £4,214.75

 

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