25 October 2021

Dividend tax rate rise in 2022

Services:

Corporate Tax Planning

Is now the time to assess your dividend/salary structure as a company owner?

Many limited company owners have historically opted to take their financial packages out through a combination of low salary and dividends for optimal tax efficiency. The salary element is deducted from the annual company profits before Corporation Tax is paid (unlike a dividend) and, assuming the salary is above the Lower Earnings Limit of £6,240 in 20/21 and 21/22 tax years), will also accrue a qualifying year towards state pensions.

The government plans to increase dividend tax by 1.25 percent in 2022. The increase will hit anyone holding investments outside of stocks and shares Isa’s, investors who exceed their dividend tax allowance and business owners that pay themselves dividends.

 

If a salary is deducted from company profits and a dividend isn’t, why don’t I pay high salary instead?

You would be forgiven for thinking that an increased salary would attract higher Corporation Tax savings and therefore would be more efficient, however, National Insurance comes into play for both the employer and employee which often negates this benefit. The National Insurance Primary Threshold (in 21/22 tax year this is £9,568) sets the level above which you will pay National Insurance personally, and the Secondary Threshold (for the 21/22 tax year this is £8,840) sets the level where the employer (in this case your Limited Company) will pay Employer’s National Insurance. Therefore, if we were to set a director salary at £8,840 per annum then the following would apply:

  • The Lower Earnings Limit is exceeded, and the Director accrues a qualifying year towards state pension
  • The Primary Threshold is not exceeded and therefore no personal National Insurance is due
  • The Secondary Threshold is not exceeded and therefore no Employer National Insurance contributions are due
  • The whole amount of the salary is deducted from the company as an expense reducing the Corporation Tax payable

How much dividend tax will I pay in 2022/23?

The first £2,000 of dividend income remains tax free in 2022/23 and above this allowance you’ll pay the marginal tax rate. The table below shows the current rates for 2021/22 and the increased rates for 2022/23.

 

Tax band

Dividend tax rate 21/22

Dividend tax rate 22/23

Basic rate

7.5%

8.75%

Higher rate

32.5%

33.75%

Additional rate

38.1%

39.35%

 

How do I tell HMRC about my salary/dividend package?

HMRC have Real-Time Information (RTI) rules that mean regular returns are filed informing them of salaries paid in a business. Failure to do so can result in fines and penalties and so it is important that a director salary is reported appropriately.

For the dividend element of a Shareholder’s package, this is only available on after-tax profits made by a company and does not attract national insurance. Even better, the first £2,000 of dividends a shareholder earns in a tax year does not attract an income tax charge.  There are rules, as set out by HMRC, to properly pay out a dividend. These include the following:

  • A dividend must usually be paid to all shareholders.
  • A Director’s meeting should be held to declare the dividend and minutes kept of this meeting.
  • A dividend voucher should be written up for each dividend a company pays out.

 

What are the drawbacks of paying a lower salary?

  • Some insurance cover policies are based upon earnings, often which exclude dividends. Therefore, your pay-outs may be reduced if you are on a restricted salary.
  • Similarly, recent government support around furlough was based upon salaried earnings, not dividends, and therefore potential aid was restricted.
  • To qualify for maternity benefits an individual must be in line with National Minimum Wage Regulations (ordinarily these don’t apply to company Directors unless a contract of employment is in place) and therefore support may be reduced accordingly.
  • Some mortgage and loan underwriters have historically looked upon lower salary unfavourably, although many will still take account of dividend earnings when looking at affordability calculations.
  • Most UK taxpayers have a personal allowance below which they do not have to pay income tax. For 2021/22 this is £12,570. By taking a salary of the Lower Earnings Limit a taxpayer has a remaining ‘tax-free’ band that may not be utilised if they earn no further income from dividends or other sources.
  • Tax on dividends will increase alongside the government’s recent announcement around the Health and Social Care Levy resulting in further tax being payable on the balance of a shareholder’s package.

 

Should I change my dividend / salary package because of the rise in dividend tax in 2022?

In most cases, the answer to this question is that now may be a good time to look at your package. The increase of 1.25% is not too significant for most business owners to mean you should necessarily change the way you pay yourself in the long term but it’s worth considering the following points to mitigate some of the rise:

  • Maximise dividends in 2021/2022 tax year at the lower rates.
  • Make pension contributions.
  • Transfer dividends from investments into tax free ISAs.

 

Our team at Haines Watts are well-placed to look at your individual circumstances and help ensure you are running your company and personal tax affairs as efficiently as possible. For most, a low salary route will still be the most appropriate, but now more than ever, a review of your circumstances may pay dividends (excuse the pun!) in the long run. Please contact us at our offices in Chester, Wirral and Liverpool.

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