More detail on dividend changes

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HMRC has issued a factsheet about next year’s dividend tax changes.

George Osborne raised a few eyebrows when he announced a change to dividend taxation from next April. The situation was not helped by the very limited detail available from HMRC and the omission from the Finance Bill published in July.

However, last month things became a little clearer when HMRC published a “Dividend Allowance Factsheet”. This revealed that the new £5,000 Dividend Allowance will not in fact be a true allowance at all, but rather yet another 0% tax band. The difference may sound academic, but it is significant.

To see the effect, let’s suppose that someone had income (before dividends) in 2016/2017 of £40,700, £2,000 below the starting point for higher rate tax. If they then receive dividends of £7,000, this will be taxed as follows:

Table showing taxation of dividends on income under the higher rate tax

As the total dividend income puts the total income over the higher rate tax threshold, any dividends above the £5,000 allowance are taxed at the new dividend higher rate. If the allowance had been a “true allowance”, then we would have expected the above calculation to look like this:

Table showing taxation of dividends on income over the higher rate tax

It remains the case that all dividends within the new £5,000 allowance will be free of tax to all.

The news that the Dividend Allowance is not a true allowance has sent some tax experts back to their spreadsheets to re-crunch their numbers. Sometimes the recalculations have resulted in higher projected tax bills, particularly for shareholder directors who use dividends to extract income from their companies, rather than drawing salary and/or bonus. If you fall into that category, you need to think about your 2016/2017 income strategy now – and maybe plan a special dividend before 6 April 2016.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Investing in shares should be regarded as a long-term investment and should fit in with your overall attitude to risk and financial circumstances.

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