By Tim Haggard
In 2016, then Chancellor George Osborne effectively increased the tax on dividends from UK companies, by removing the dividend tax credit, the net effect of which was a new basic rate of 7.5%, and a higher rate of 32.5%, albeit with a new tax-free allowance. At the time of introduction, the tax-free allowance was set at £5,000 and this continued until the end of March 2018. In the Finance Bill of 2017 current Chancellor Philip Hammond announced that the allowance would be reduced to £2,000 from 5th April 2018.
Whilst the dividend tax was probably envisaged as a means of ensuring a balanced and fair system of taxation, the outcome is far from this and business owners will see it as an attack on risk-taking entrepreneurs, not as a balancing exercise. When combined with the raft of recent changes it means that business owners taking a blend of salary and dividends will pay a higher overall percentage in tax than an employee on the same income. This seems inequitable given the employee is exposed to substantially lower levels of risk than the business owner, who may have staked their livelihood on the business and is helping UK PLC by employing people, renting premises, paying rates and supporting other businesses through the supply chain.
Whilst limited company owners will lament the reduction in the dividend tax allowance, we do not believe it will trigger wide-spread changes to the blend of salary and dividends used by owner-managers to extract hard-earned cash from their companies, or to the use of Limited Companies, which remain popular trading vehicles for a number of good commercial reasons.
Moving to a pure salary income incurs the added overhead of employers national insurance, immediately adding further tax costs of 13.8%. Partnerships and sole trader set ups have other implications, not least of all leaving you personally exposed to volatile tax situations which can result from the profits of a good year coming back to bite you if the following year is more challenging.
So, whilst the latest reduction in the dividend allowance will be a bitter pill to swallow and will mean tax bills increasing for the vast majority of business owners, it is unlikely to result in wholesale change.
Tim Haggard is Senior Partner at Haggards Crowther