Discussion
A couple of friends have recenlty opened a garage, seem to be doing well etc. We were talking about business in the pub and they mentioned they pay themselves dividends.
Now, silly question but how can they pay didvidends when they have only been trading for 6-9 months? Do I need to tell them to get a new accountant or is my little knowledge dangerous?
Now, silly question but how can they pay didvidends when they have only been trading for 6-9 months? Do I need to tell them to get a new accountant or is my little knowledge dangerous?
It is legal to pay a dividend BEFORE final accounts have been drawn up. Such dividends are called "Interim Dividends" and are perfectly OK, so long as the company has generated sufficient profits to justify and support the level of the dividend drawn.
However, in my opinion, most "non-accountants" are not always well versed enough in accounting affairs to really know whether a company is genuinely profitable. They will tend not to be aware of all the various accounting standards and the correct treatment of certain types of transactions which determine "profit or Loss" in company.
Also, directors usually do not know the tax implications of dividends either. For instance, if they are planning on drawing dividendss NOW, do they know that they could save themselves substantial tax by simply defering the dividend to tomorrow?
However, in my opinion, most "non-accountants" are not always well versed enough in accounting affairs to really know whether a company is genuinely profitable. They will tend not to be aware of all the various accounting standards and the correct treatment of certain types of transactions which determine "profit or Loss" in company.
Also, directors usually do not know the tax implications of dividends either. For instance, if they are planning on drawing dividendss NOW, do they know that they could save themselves substantial tax by simply defering the dividend to tomorrow?
If you are NOT a higher rate tax payer for 2005/06, then you can "top up" your 22% tax band income by giving yourself a dividend before 5 April 2006. The clever thing was to refrain from paying this "top up" dividend until after 31 March.
Dividends are not subject to ANY Income Tax until you go into the Higher Rate bands.
Dividends are not subject to ANY Income Tax until you go into the Higher Rate bands.
Ok my turn to be thick again. Can you clarify I've got this right in my head....
As of 1st April a Ltd company no longer has to pay 19% tax on dividends handed out to employees, the tax liability then rests with the employees personal tax situation.
If the employee is a lower rate tax payer then the dividend payment is not subject to any tax as long as the total income doesn't breach the upper tax bracket. (I don't get this bit if it's true, why isn't it subject to the lower tax bracket charge?)
If you're a higher rate tax payer or the dividend payment takes you over to that threshold the dividend is then subject to the higher rate tax band.
If all the above is correct and the company made a profit of less than £10k in the 2005/6 year then essentially there's no tax liability for the company or the individual if the dividend is paid between 1st - 5th April and the individual is a lower rate tax payer.
Seems too good to be true so I'm sure I've got it wrong somewhere.
Cheers, John
As of 1st April a Ltd company no longer has to pay 19% tax on dividends handed out to employees, the tax liability then rests with the employees personal tax situation.
If the employee is a lower rate tax payer then the dividend payment is not subject to any tax as long as the total income doesn't breach the upper tax bracket. (I don't get this bit if it's true, why isn't it subject to the lower tax bracket charge?)
If you're a higher rate tax payer or the dividend payment takes you over to that threshold the dividend is then subject to the higher rate tax band.
If all the above is correct and the company made a profit of less than £10k in the 2005/6 year then essentially there's no tax liability for the company or the individual if the dividend is paid between 1st - 5th April and the individual is a lower rate tax payer.
Seems too good to be true so I'm sure I've got it wrong somewhere.
Cheers, John
Regarding your points whicjh I have listed below:
"Ok my turn to be thick again. Can you clarify I've got this right in my head....
As of 1st April a Ltd company no longer has to pay 19% tax on dividends handed out to employees, the tax liability then rests with the employees personal tax situation.
"If the employee is a lower rate tax payer then the dividend payment is not subject to any tax as long as the total income doesn't breach the upper tax bracket. (I don't get this bit if it's true, why isn't it subject to the lower tax bracket charge?)
If you're a higher rate tax payer or the dividend payment takes you over to that threshold the dividend is then subject to the higher rate tax band.
If all the above is correct and the company made a profit of less than £10k in the 2005/6 year then essentially there's no tax liability for the company or the individual if the dividend is paid between 1st - 5th April and the individual is a lower rate tax payer.
Seems too good to be true so I'm sure I've got it wrong somewhere."
My Answers:
i) Correct. The 19% CT calculation on the dividend is abolished with effect from today (1 April).
Dividends are paid to SHAREHOLDERS, not employees or directors, although there is nothing wrong with employees or directors being shareholders too. Individuals ALWAYS were subject to Income Tax on dividends received (although not on all the dividend - see below). That still held true even when Gordon B was asking for the 19% CORPORATION TAX amount AS WELL.
ii) The fact that individuals only incurr an actual Income Tax liability on a dividend when they enter the higher rate tax bracket is just a tax rule - there is no other reason. If you can't understand the logic behind it, the reason is is that there IS no logic.
A further quirk to this rule is that, when the income does enter the Higher Rate bracket, which is normally 40%, the Higher Rate tax calculated on the dividend is at 32.5%, not 40%.
iii) the £10,000 Zero Rate Corporation Tax bracket on company profits is also abolished with effect from 1 April. The situation you have described was the GENUINE situation actually in place up to 31 March 2004. Gordon Brown introduced the 19% Corporation Tax charge on dividends on 1 April 2004 to try and recover some of the "Nil" tax situations his own tax policies had created.
>> Edited by Eric Mc on Saturday 1st April 13:47
"Ok my turn to be thick again. Can you clarify I've got this right in my head....
As of 1st April a Ltd company no longer has to pay 19% tax on dividends handed out to employees, the tax liability then rests with the employees personal tax situation.
"If the employee is a lower rate tax payer then the dividend payment is not subject to any tax as long as the total income doesn't breach the upper tax bracket. (I don't get this bit if it's true, why isn't it subject to the lower tax bracket charge?)
If you're a higher rate tax payer or the dividend payment takes you over to that threshold the dividend is then subject to the higher rate tax band.
If all the above is correct and the company made a profit of less than £10k in the 2005/6 year then essentially there's no tax liability for the company or the individual if the dividend is paid between 1st - 5th April and the individual is a lower rate tax payer.
Seems too good to be true so I'm sure I've got it wrong somewhere."
My Answers:
i) Correct. The 19% CT calculation on the dividend is abolished with effect from today (1 April).
Dividends are paid to SHAREHOLDERS, not employees or directors, although there is nothing wrong with employees or directors being shareholders too. Individuals ALWAYS were subject to Income Tax on dividends received (although not on all the dividend - see below). That still held true even when Gordon B was asking for the 19% CORPORATION TAX amount AS WELL.
ii) The fact that individuals only incurr an actual Income Tax liability on a dividend when they enter the higher rate tax bracket is just a tax rule - there is no other reason. If you can't understand the logic behind it, the reason is is that there IS no logic.
A further quirk to this rule is that, when the income does enter the Higher Rate bracket, which is normally 40%, the Higher Rate tax calculated on the dividend is at 32.5%, not 40%.
iii) the £10,000 Zero Rate Corporation Tax bracket on company profits is also abolished with effect from 1 April. The situation you have described was the GENUINE situation actually in place up to 31 March 2004. Gordon Brown introduced the 19% Corporation Tax charge on dividends on 1 April 2004 to try and recover some of the "Nil" tax situations his own tax policies had created.
>> Edited by Eric Mc on Saturday 1st April 13:47
Eric Mc said:
Gordon Brown introduced the 19% Corporation Tax charge on dividends on 1 April 2004 to try and recover some of the "Nil" tax situations his own tax policies had created.
Well he raised it from 10 per cent
Thanks for the explanation Eric - something I struggle to keep up with and important when planning on how to pay shareholders this financial year. Luckily my accountant is singing from the same hymn sheet as yourself.
The 10% Rate of Tax seen on dividends is nothing to do with the 19% Corporation tax at all - and never did. In fact, it is purely a "Notional Income Tax Amount" and is never, in reality, deducted from the dividend or paid over to the HMRC.
All the 10% Notional Tax Credit does is increase the Gross Value of the dividend for personal tax purposes.
For example - if you pay yourself a dividend of £10,000 from your company into your personal bank account, that is "deemed" to be the Net of Tax value of the dividend. The Gross Value of the dividend is actually £11,111.11. It is the Gross Value that is taken into account when adding up your total income for tax purposes.
As I said earlier, no personal Income Tax is payable on the dividend unless your Gross Income for the year (including the Gross Dividend of £11,111.11 takes you into the higher rate tax bracket. If it does, the dividend will be taxable at 32.5% tax on that part of the Gross Value of the dividend that falls inside the Higher Rate Tax band.
Simple innit
All the 10% Notional Tax Credit does is increase the Gross Value of the dividend for personal tax purposes.
For example - if you pay yourself a dividend of £10,000 from your company into your personal bank account, that is "deemed" to be the Net of Tax value of the dividend. The Gross Value of the dividend is actually £11,111.11. It is the Gross Value that is taken into account when adding up your total income for tax purposes.
As I said earlier, no personal Income Tax is payable on the dividend unless your Gross Income for the year (including the Gross Dividend of £11,111.11 takes you into the higher rate tax bracket. If it does, the dividend will be taxable at 32.5% tax on that part of the Gross Value of the dividend that falls inside the Higher Rate Tax band.
Simple innit
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