Reduction in Dividend Allowance: Will it affect you?

In the government’s second finance bill that was confirmed last month, dividend allowance was cut by £3,000 from its current level at £5,000.

As Chancellor continues to target the contracting industry this could leave contractors with a dividend tax bill of £1,143.
Phillip Hammond first spoke about the dividend cut in the Spring Budget speech where he said, “People should have choices about how they work, but those choices must not be driven primarily by differences in tax treatment”.

The Chancellor is of the opinion that there must not be any difference in tax treatments for employees and non-employees. Contracting organisations are however debating this statement and say that employees enjoy more benefits than non-employees.
As the dividend allowance cut did not appear in the first Finance Bill immediately after the general election, people were of the opinion that it might be scrapped along with Class 4 (self-employed) National insurance contributions increase. Unsurprisingly, this dividend policy did re-appear in a subsequent bill and has been passed.

Dividend Allowance

The dividend allowance is a fairly new introduction to the tax system. It was introduced in the year 2016 and it implies that dividends are subject to tax based on how much the individual earns.

There are three dividend tax rates, with basic rate tax payers paying dividend tax at 7.5%, higher and additional rate tax payers paying 32.5% and 38.1% respectively.

Like personal allowance, there is a “dividend allowance” of £5,000. It meant that the first £5,000 of dividend income is not taxed for limited company shareholders getting paid in dividends. However, this sum is still taken into consideration for overall tax purposes.
Starting April 2018, this dividend allowance will fall to £2000.

Is it going to affect you? If yes, how much?

Your overall income (savings, dividend and non-dividend income) will determine how much tax you pay on the dividends you get in 2018 with the allowance reduced from £5,000 to £2,000. The dividend tax will primarily depend on which tax band the first £5,000 falls in.

For a basic rate tax payer, this reduction would lead to an increase in dividend tax by £225. Higher rate and additional rate tax payers would be worse off by £975 and £ 1,143 respectively.

If the dividends (£5000) fall between multiple tax bands, the figures mentioned above will change.

Conclusion: Family businesses could be the most affected by this change. Where multiple family members take dividend income they could be far worse off.

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