The Government has announced significant tax rises to help fund a new ‘Health and Social Care Levy’. Alongside a hike in Employers’ and Employees’ NICs, dividend tax will also rise – from April 2022 onwards.
Here we look at the background to this dividend tax increase and work out how much it will cost you.
Background to the 2022 dividend tax rise
The Government claims that a major tax increase is needed to fill a funding gap for social care programmes, as well as “catch up” funding for the NHS.
As a result, yesterday (September 7th), Boris Johnson announced a manifesto-breaking 1.25% rise in National Insurance Contributions, and a matching rise in dividend taxation to fill this gap.
The combined tax increases are expected to raise £36bn over three years and will be legislated for in the next Finance Bill.
The Prime Minister said that the cross-tax rise “will share the cost between business and individuals” – 14% of individual taxpayers will contribute half of the entire Levy.
The Government says that the dividend tax rise is expected to raise around £600m per year. It applies to dividends from all types of companies – both publicly listed, and privately owned.
How much will dividend tax rise by?
Each dividend tax rate will rise by 1.25% – the same as the rise in both Employers’ and Employees’ NICs.
- So, the current basic rate will rise from 7.5% to 8.75%,
- the higher rate increases from 32.5% to 33.75%, and
- the additional rate (if you earn £150,000 or more) rises from 38.1% to 39.35%.
The dividend allowance, which means that the first £2,000 of dividends earned each tax year are not taxable, remains in place.
More misery for limited company directors
Limited company owners have been subjected to a wide range of tax hikes in a short period of time – including the massive April 2016 dividend tax hike – which cost a typical limited company contractor over £4,000 per year.
The dividend allowance – introduced at the same time as the April 2016 shake-up of dividend taxation – was slashed from £5,000 to a mere £2,000 in 2018 – just two years after its creation.
Earlier this year, the Chancellor announced a huge increase in Corporation Tax from April 2023 – the rate is expected to rise from 19% to 23%.
On top of the pain inflicted by successive taxes on profits and dividends, company directors are usually salaried employees, and many small companies also have other staff members on their books.
So, depending on the salary levels of directors and/or employees, limited companies will also be hit by the headline rises in Employers’ and Employees’ Class 1 National Insurance.
The NI increase will also apply to the self-employed (Class 4 NICs).
Significantly, it is also worth noting that limited company directors were excluded from the Government COVID support programmes – but will be tasked with rebuilding the same Government coffers which were used to fund furlough and self-employed bailouts. A very hard pill to swallow for many.
How much will the dividend tax rise cost you?
The “1.25%” figure is misleading. In real terms, it means that each tax rate will increase by “1.25” points. The increase in tax is significantly higher than 1.25%, for obvious reasons.
Fundamentally, it means that you will pay an extra £12.50 per £1,000 of dividends received during 2022/3.
Basic rate taxpayers
For example, if you are a limited company owner earning an £8,840 salary, and receiving dividends up to the threshold of the higher rate tax band (currently £50,270), your dividends will be taxed at 8.75% rather than 7.5%.
- Your salary is not subject to income tax (or National Insurance).
- The first £2,000 of dividends fall within the dividend allowance
- Another £3,750 falls within the £12,570 personal allowance and is tax-free.
- The remaining £35,700 of dividends are taxed at the new 8.75% basic rate = £3,123,75.
- Under the previous dividend basic tax rate of 7.5%, you paid £2,677.50.
- As a result of the new tax, you will pay an extra £446.25 in 2022/3!
Higher rate taxpayers
What if you receive dividends within the higher rate band (from £50,270 – £150,000 per annum)?
The higher rate of dividend tax will increase from 32.5% to 33.75%, so you will pay an extra £12.50 per £1,000 dividends received within this band.
So, if you receive an extra £20,000 of dividends during the 2022/3 tax year, you will pay another £250 in higher rate dividend tax, on top of the £446.25 basic rate hit.
Additional rate taxpayers
All of the rates of dividend tax will rise by 1.25 percentage points; for individuals earning over £150,000, the additional dividend tax rate increases from 38.1% to 39.35%.
So, once again, you will pay an extra £12.50 for every £1,000 earned over £150,000.
[NEW] Use our April 2020 Dividend Tax Hike Calculator Tool to see how much extra tax you will pay.
What should you do to mitigate against the April 2022 dividend tax rise?
Firstly, given the uproar the proposed tax rises have caused, it isn’t certain yet whether these proposals will become law. It may be prudent to wait until the proposals become law under the next Finance Bill before making any financial decisions.
It should be noted that the tax rises were confirmed in the Autumn Budget on October 27th.
So, assuming the dividend tax rise goes ahead, as planned, you will clearly pay less tax if you’re able to extract extra dividends in the current 2021/22 tax year.
Of course, you may have other variables to consider, such as:
- The amount of dividends you have already received during the current tax year.
- Your salary/dividend split.
- If you co-own shares in your company with your spouse.
- What your profit expectations are for the next tax year.
If you have any questions, we recommend you chat with your accountant before making a dividend declaration.
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