What are dividends?
Dividends are payments made to a company’s shareholder(s) after the deduction of business expenses and corporation tax. They are an additional way of paying yourself from the profits available in the company.
Once your limited company has started making a profit, these profits are subject to corporation tax (19% 2020/21), but the remainder can be paid to shareholders in the form of dividends.
When can I pay a dividend?
Dividends can be paid at any point throughout the financial year, providing there are profits available. You must first hold a meeting with directors to declare the dividend and a dividend voucher must also be given to the shareholder outlining the dividend paid.
If you decide to pay dividends part way through the financial year, ensure you have forecasted your year end profits accurately as the last thing you want to do is pay the dividends back if your company does in fact fall into negative retained profit.
What income tax is due on dividends?
Each year you get a dividend allowance (£2,000 2020/21) which, in addition to your personal allowance, is tax free. There is no national insurance due on dividends. Tax on dividends thereafter is 7.5% up to the higher rate tax bracket (£50,000 2020/21) and then you will be charged 32.5% tax on dividends received when you have exceeded the higher rate bracket. The rate increases to 38.1% if you earn in excess of £150,000 (2020/21) for the tax year. When calculating which tax band you fall into, you need to consider all income, not just dividends taken.
Dividends received are taxed through a self assessment submission, due by 31 January following the tax year end.
IR35 Rules
You must be outside IR35 rules to receive dividend payments. If your contract is caught inside IR35 you will only be able to pay yourself via a salary.
What is best for me?
Most contractors find paying a combination of salary and dividends most tax efficient. Tax is very complex and the most tax efficient way of withdrawing money from a business will differ from one to the other. It is worth investigating the possibilities to find which combination is best for you. Factors to be considered are:
- Are you the only employee/director of the company or do you employ other staff?
- How much you earn and how much you want to remove as dividends
- How healthy your cashflow is
- What income tax bracket do you fall into?
- What profits are available
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