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Do you pay corporation tax on dividends? Limited companies often wonder if they pay corporation tax on their dividend payouts. How UK dividend taxation works, whether you are an issuing company or a shareholder, you will find out below. This guide also covers what dividends are, the role of corporation tax and other taxes on dividends, expert tax-saving tips, and other FAQs.
What are Dividends?
Dividends are payments issued by a limited company to all owners of its shares (aka shareholders) from either the current or previous year’s profits (retained profits). They may be in the form of cash or reinvestment. The payouts are only issued after business costs and taxes have been deducted, provided that the profits are sufficient for distribution. Otherwise, profit distribution is deemed illegal.
Dividends must be paid to ‘all’ shareholders according to their percentage of ownership in the company. For a ‘one-person-band’ company, the sole shareholder receives all the dividends. Usually, dividends are paid annually or quarterly, as HMRC tends to suspect frequent dividend payouts to be a ‘disguised’ salary. As a shareholder, this may increase your tax bill.
Do You Know? Issuing dividends without enough distributable profits is illegal. These dividends will be called ‘ultra vires,’ which translates to ‘beyond the powers.’ Company directors must calculate their profits with an accountant to ensure they are not violating any UK tax or legal regulations.
Do You Pay Corporation Tax on Dividends?
No. Paying dividends from limited company does not incur corporation tax. This applies not only to the issuing company but also to the shareholders. Corporation tax is already deducted from the distributing company’s taxable profits before the dividends are paid. Dividends are not, in any way, considered a business cost for corporation tax purposes, which means they do not affect the company’s corporation tax bill.
Aside from corporation tax, limited companies will also need to settle their other tax liabilities, such as VAT, and business expenses (e.g., salaries, accounting, insurance bills, etc.) before they can issue dividend payments.
Trivia: Aside from the UK, Australia, New Zealand, and other parts of Europe issue dividends to another company as a franked investment income. These dividends come with tax credits or franking credits that reduce the tax burden for the receiving company and avoid double taxation on dividends, wherein the company and the shareholder are prevented from paying tax on the same income.
What Tax Do You Pay on Dividends?
Corporation tax or National Insurance are not paid on dividends. Shareholders, instead, pay income tax at a lower rate if they exceed the Personal Allowance, otherwise called the shareholder dividend tax. As a shareholder, you may also pay capital gains tax on the following conditions:
- The company reinvests your dividends to buy more shares, and you sell those shares.
- If you gain a difference between the purchase price and the selling price.
Dividend Allowance
For the 2024/25 tax year, the tax-free threshold is reduced to £500, halved from the previous tax year’s £1,000. Any dividend in cash you receive above this amount will be paid income tax.
Pro-Tip: Dividends may be known for their tax efficiency, but as the tax-free allowance is now cut to £500, planning how you take out the money is ever more crucial. Be sure to discuss with a tax advisor how you can get your dividend pay, minus potential tax liabilities.
Dividend Tax Rates
Dividend tax rates depend on which income tax band over the Personal Tax Allowance you belong to. For the 2024/25 tax year, the rates on dividend tax are as follows:
| Income Tax Band | Dividend Tax Rates |
|---|---|
|
Basic Rate |
8.75% |
|
Higher Rate |
33.75% |
|
Additional rate |
39.35% |
Understanding how income tax bands work with the dividend allowance is crucial to working out how much dividend tax you may owe. You will need to include dividends in your total income to determine your income band and payable tax amount. Consult tax experts for more accurate results.
Tax-Efficient and Compliance Tips
Here are how you can be more HMRC-compliant and curb your tax liabilities on dividends:
- Maximise the annual dividend allowance, receiving a lower salary compared to dividends as much as possible.
- Avoid receiving dividends frequently to prevent HMRC from suspecting if your dividend payouts are a ‘disguised salary,’ which may result in your increased tax bill.
- Ensure your salary and dividend payments are separate to create a clear audit trail and keep clear records and proper paperwork to prove compliance in case of a tax enquiry.
- Consider paying into a pension fund, ISA, or to family members. ISAs, most especially, allow for up to £20,000 in tax-free savings or investments, with dividends on shares held within an ISA not subject to tax.
- Be sure to always consider the tax and legal implications beforehand with the advice of a tax accountant.
Extra Tip: Dividends from Venture Capital Trusts (VCTs) are free from tax. However, this is a risky investment. Consulting tax professionals before investing in VCTs will help you optimise your wealth as they weigh all investment options and their potential tax implications.
Other FAQs on Dividends
No, as UK tax regulations deem paying beyond the company’s powers to be illegal. A company can only issue dividend payments if it has enough current year or retained profits.
No. Dividends are not considered business expenses or taxable profits for corporation tax purposes; hence, they do not affect corporate tax bills.
Yes, but not corporation tax or National Insurance. Dividends are usually paid income tax or capital gains tax if the shareholder or director receives them above the current Personal Allowance.
You may contact HMRC Helpline or file a self-assessment. See our comprehensive guide on self-assessments for more details.
Need More Advice?
You may be one among many new business owners who have asked do you pay corporation tax on dividends? Cut to the chase, no, and you might have already observed that—you must pay corporation tax before you can distribute dividends. Shareholders above the annual threshold, on the other hand, pay income tax on dividends.
Whether you are limited company owner, shareholder, or both, you will need to file self-assessments to report your income and pay taxes. Legend Financial is here to assist you throughout the full tax cycle, from ensuring tax-efficiency between salary and dividends to paying your tax bill. Talk to our tax accountants today!
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