If you are a contractor or have recently started your own Limited Company, paying dividends and structuring your salary correctly will allow you to maximise your take-home pay. Your income will be split between salary and dividend payments and channelled through your limited company and paid out to you and any other shareholders in the company. Dividends are treated differently to salaries in terms of tax, so this can result in significant tax savings, however the tax advantages are dependant on whether you fall within the IR35 rules.
So, what is a dividend? Simply put, a dividend is a sum of money paid to the shareholders (owners) of a company on a regular basis. Typically occurring every quarter, a dividend payment will come directly from a company’s post-tax profits, with each sum of money being representative of each individual shareholder’s stake in the business.
In order for you, as one of the directors of your company, to be able to distribute a dividend to your shareholders (chances are you’re also a shareholder in the company), you must be happy that your business has the sufficient funds to comfortably issue such a sum, taking into account all upcoming liabilities and your company’s current cash flow situation.
The official decision to distribute a dividend among shareholders must be made at a company board meeting, with the minutes being recorded, stored, and available in the company register should the decision need to be confirmed (or looked into further) at a later date.
Tax on Dividends
Tax payments on dividends may seem complicated the first time you delve into them, so we’ve tried to describe the taxation process below in as simple terms as possible. Once you’ve familiarised yourself with our description of the process, visit the Government’s ‘tax on dividends‘ webpage for further reading and information on this subject.
Dividends are paid out of your company’s profits after corporation tax, thus simplifying the tax and National Insurance Contributions (NICs) requirements due to the company’s tax position being unchanged and unaffected by the dividend.
For this reason, each shareholder in receipt of a dividend will pay tax on their gross payment (see below) in relation to other income streams they’re currently in receipt of. This helps to establish which tax bracket a dividend falls into; basic, higher, or additional rate.
Notional Tax (Tax Credit)
Each dividend payment must be paid net of a notional tax, currently set at 10%. This ten percent is seen by HMRC as a future tax payment by the shareholder in receipt of a dividend. Once a dividend has been paid to an individual shareholder, your company must issue a tax voucher to the shareholder detailing the net amount payable (represented by the size of their stake in the business), plus the amount of the notional tax credit; representing the gross dividend payment.
So for example, if a shareholder is a basic rate taxpayer, and will continue to be after their gross dividend payment, your dividend’s tax rate will be just 10%, with the effective rate of tax being 0% once the notional 10% tax is taken into account (see above). If a shareholder is currently a higher rate taxpayer, and will continue to be after their gross dividend payment, your tax rate will be set at 32.5%, with this being reduced to 22.5% (minus your ten percent notional tax).
If this all seems too technical – we can help! We are here to help you with any queries you have and can review your current structuring and advise on the best split for salary and dividends to ensure you make the most of all the tax savings available.
Professional Advice on Dividend Distribution
To speak with a professional to discuss how to successfully distribute a dividend to your shareholders and to maximise your take-home pay, contact us today on 020 8780 2349 or get in touch with us via our contact page to arrange a complimentary, no obligation meeting.
This blog is a general summary. It should not replace professional advice tailored to your specific circumstance.