Taxation of dividends

When a dividend is paid to an individual, it is subject to different tax rates compared to other income. An individual who has dividend income which falls into the basic rate band has no tax to pay. For higher rate (40% and 45%) taxpayers, the effective tax rates on a dividend receipt are 25% and 30.6%.

From 6 April 2016 the new rates of tax on dividend income will be 7.5% for basic rate taxpayers, 32.5% for higher rate taxpayers and 38.1% for additional rate taxpayers. However a new Dividend Allowance will tax the first £5,000 of dividends received in a tax year at 0%.

There are winners and losers from the new regime.

An example of a winner is a higher rate taxpayer who has dividend income of £5,000. In 2015/16 he will have a tax liability of £1,250 (25% of £5,000). In 2016/17 he will have no tax liability.

An example of a loser under the regime will be the sole shareholder of a company who takes a small salary and then receives dividends up to the threshold at which higher rate tax is payable. In 2015/16 he has no income tax on the salary (as the salary is below the personal allowance) and no tax on the dividend. In 2016/17 only £5,000 of the dividend will not be taxable.