How dividend waivers work – guide for company directors

When a company declares a dividend, the proceeds must be distributed equitably based on the number of shares each shareholder owns. In some cases, it may be possible for one or several shareholders to ‘waive’ their rights to receive a dividend.

Here, we explain what dividend waivers are and why company directors should be aware of the tax implications when using them.

What is a dividend waiver?

To prevent HMRC from challenging a dividend distribution, you should follow specific steps if one or more shareholders waive their right to receive a dividend.

• Formally execute a Deed of Waiver, signed by shareholders who would otherwise be entitled to receive the dividend.
• The deed must be witnessed and retained with the company’s statutory records.
• The waiver must be in place before the right to receive a dividend arises, particularly for interim dividends.

Remember that a waiver should only be used for legitimate commercial reasons. It must not create a situation in which the resulting dividend is treated as a ‘settlement’ for tax purposes.

Are there valid commercial reasons for the waiver?

Dividends are subject to lower tax rates than PAYE employment income, although this gap has reduced in recent years.

In cases where company employees are also shareholders, some may choose to waive their dividend rights, allowing other employee-shareholders to receive larger dividends instead of salary.

However, HMRC may challenge this arrangement if the waiver decision is made solely to avoid tax rather than for a legitimate commercial reason.

If challenged, the extra dividends received by employee-shareholders may be treated as employment income and taxed accordingly.

Therefore, you should always have a valid commercial reason for a waiver, such as preserving working capital or supporting uneven shareholdings, and document it carefully.

Is the dividend a ‘settlement’?

Another significant obstacle for company owners seeking to waive dividends is the Settlements Legislation.

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Many small companies are owned by two shareholders, often a husband and wife. Dividend waivers are sometimes used to take advantage of a lower tax rate for one shareholder, resulting in a potential settlement of income.

If one shareholder decides to waive their right to receive a dividend, you must ensure that the dividend received by the other shareholder is not deemed a ‘settlement’ by HMRC.

Things to bear in mind to avoid a deemed ‘settlement’

The taxman will consider the following questions if your affairs are reviewed:

• If the waiver had not been in place, would the company have sufficient retained profits to pay the same dividend rate to all shareholders?
• Does the company have a history of dividend waivers? Over time, would the same dividend rate have been sustainable without them?
• Would the recipient benefit financially from the arrangement, and would the waiving shareholder reasonably be aware of this?

An example where a dividend waiver may be challenged

For example, a husband and wife own a company in a 75:25 split and earn £58,000 in profit during the financial year.

The husband waives his right to receive a dividend, and the company declares a £2,000 dividend per share.

Here, the wife will receive a £50,000 dividend, leaving £8,000 in retained profits in the company.

HMRC could successfully challenge this arrangement, as the company could not distribute the dividend at the £2,000 rate to both shareholders without the waiver.

Find out more in HMRC TSEM4225, which covers situations where the Settlements Legislation may apply.

Recent cases involving dividend waivers

Donovan & McLaren vs. HMRC – avoiding tax

A First-tier Tribunal case, Donovan & McLaren v HMRC, highlights the importance of seeking advice before using dividend waivers.

In this case, two company directors used multiple dividend waivers to allow their wives to use lower tax bands rather than the directors’ higher-rate bands.

The directors owned 80% of the company, and the wives 20%.

The directors waived their rights to receive dividends several times over three years and, after losing their appeal, were required to repay £27,000 each in additional tax.

The tribunal found that the waivers were used primarily to reduce the couples’ tax liabilities, rather than for any valid commercial purpose.

Buck vs. HMRC – insufficient reserves in place

Another case (Buck v HMRC) demonstrates why a company must have sufficient reserves to pay dividends to all shareholders if the waiver were not in place.

In this case, Mr Buck, who owned 9,999 shares in his company, waived his right to a dividend for the year ending March 2000 and distributed £35,000 to his wife, who owned a single share.

Clearly, the company would not have been able to pay this amount to all shareholders without the waiver.

In fact, the company would have needed over £300m in retained profits to achieve this. The commissioner concluded that the distribution was a settlement and taxed it accordingly.

Dividend waiver template

A shareholder may decide to waive their rights to a single dividend distribution, to all dividends declared within a financial year, or to waive those rights indefinitely.

Your accountant should be able to provide the specific wording you need.

An example template – to waive rights to a single dividend – would look like this:

WAIVER OF DIVIDEND

I, [NAME] of [ADDRESS], the registered holder of [NUMBER OF SHARES] Ordinary Shares of [£x] each in the capital of [COMPANY NAME] (the Company), hereby waive all rights to payment of the [INTERIM / FINAL] dividend of [£X] per share declared by the Company and its directors on [DECLARATION DATE] in respect of the year ended [YEAR-END DATE].

[DATE]

Signed by:

[SIGNATURE]

Witnessed by:

[SIGNATURE]

[NAME]

[ADDRESS]

Some alternatives to dividend waivers

One possible solution is to use different share classes, with dividend rights only applying to one class.

Some shareholders receive dividends (Class A), while others (Class B) still own part of the company but are not entitled to receive dividends.

Alternatively, you may benefit from having a more balanced share structure if you co-own the company with your spouse.

For example, shares might be split 50:50 or 60:40, rather than the extreme 9999:1 split seen in Buck v HMRC.

You should also read our guide to dividends to understand the underlying rules before considering more complex planning.

You should seek professional advice for all matters related to the share structure of your company, specifically whether or not you should consider using a dividend waiver.