Reply to: No dividend tax ???

[Fred Bloggs]

I have to admit that I still find this confusing after operating this way for several years. I have given up really understanding it in fine detail and I just rely on my spreadsheets to tell me what I can draw out and what the tex credit/tax should be. I have a spreadsheet that automatically does the dividend vouchers for me as well. That saves headaches every three months when I do the divi's.

[dude69]

Ok, I understand that neither the company nor the individual need to account to HMRC for that tax but doesn't it still leave a problem of how to extract that 10% that is retained in the company?

An example to show what I mean:

Gross profit: 50,000
Corp tax: 10,000
Net profit: 40,000
Dividends declared from from net profit: 40,000
Dividends paid to shareholders: 36,000

This leaves 4k in the co, which presumably you can't declare as dividends since then the total declared dividend would exceed the net profit. So how would you extract that from the company?

Or could you actually pay the whole 40,000 in dividends to the shareholders? That would seem strange as then the (notional) gross dividend of 40k/0.9 = 44,444 would exceed net profit, which would seem to go against the principle that dividends can only be declared out of net profits after corporation tax.

You need to understand about double taxation.

The idea is that it is wrong to pay tax twice on income, once in the company and once for the individual. So when a company pays a dividend the CT it paid imputes the individual's basic rate of tax.

It's only a partial imputation system - if you are a higher rate tax payer there is additional tax to pay.

The 10% is an arbitrary number because of differential CT rates for small and large companies. It represents the tax paid by the company.

So dividend tax is 10%, and the dividend comes with a tax credit of 10%.

So a £40k dividend received in your bank will be declared as

£40,000 net dividend
£4,444.44 tax credit (a credit for you representing tax already paid by the company)
£44,444.44 gross dividend

In fact this would attract some additional tax at this level.

Assuming personal allowance is £5k, and higher rate is £35k, then with no other income, you have gone £4,444.44 into higher rate tax.

Higher rate dividend tax is 32.5%.

So the tax payable is:

£40,000 * 0.1 (£4000) +
£4,444.44 * 0.325 (£1444.44)
= £5,444.44

You are deemed to have paid £4,444 already, so an additional £1k of tax is payable.

Basically higher rate dividend tax works out as 25% of the amount you receive when you take into account the tax credit.

[minstrel]

Ok, I understand that neither the company nor the individual need to account to HMRC for that tax but doesn't it still leave a problem of how to extract that 10% that is retained in the company?

An example to show what I mean:

Gross profit: 50,000
Corp tax: 10,000
Net profit: 40,000
Dividends declared from from net profit: 40,000
Dividends paid to shareholders: 36,000

This leaves 4k in the co, which presumably you can't declare as dividends since then the total declared dividend would exceed the net profit. So how would you extract that from the company?

Or could you actually pay the whole 40,000 in dividends to the shareholders? That would seem strange as then the (notional) gross dividend of 40k/0.9 = 44,444 would exceed net profit, which would seem to go against the principle that dividends can only be declared out of net profits after corporation tax.

The company can pay the full £40k in dividends. You need to understand the difference between company and personal tax.

From the company's perspective it just pays the 20% Corporation Tax on £50k and can distribute £40k.

From the individual's perspective they receive £40k but needs to account for the 10% notional tax credit.

The company doesn't 'see' the 10% tax credit, and the individual doesn't 'see' the CT.

[bjorn179]

The £89 doesn't actually exist anywhere. If it helps, think of it as tax you owe that has already been paid into HMRC's bank account. Assume they set it aside out of the Corporation Tax the company paid, in whatever year the profit was made that funded the dividend. This isn't correct, but it helps you draw the right conclusions about your tax position.

Ok, I understand that neither the company nor the individual need to account to HMRC for that tax but doesn't it still leave a problem of how to extract that 10% that is retained in the company?

An example to show what I mean:

Gross profit: 50,000
Corp tax: 10,000
Net profit: 40,000
Dividends declared from from net profit: 40,000
Dividends paid to shareholders: 36,000

This leaves 4k in the co, which presumably you can't declare as dividends since then the total declared dividend would exceed the net profit. So how would you extract that from the company?

Or could you actually pay the whole 40,000 in dividends to the shareholders? That would seem strange as then the (notional) gross dividend of 40k/0.9 = 44,444 would exceed net profit, which would seem to go against the principle that dividends can only be declared out of net profits after corporation tax.

[bjorn179]

It's 34,600 / 1.1 = 31454 (assuming 5225 is your allowance).

I.e. it's the amount that when you add 10%, you get the limit.

small correction - the 10% is of the total dividend income not the net dividend paid out. So the calc you need is:

34,600*0.9 = 31,140
then when you add 3,460 (10% of the dividend income) back on you get the limit

[VectraMan]

It's 34,600 / 1.1 = 31454 (assuming 5225 is your allowance).

I.e. it's the amount that when you add 10%, you get the limit.

[backlight]

Thanks.

For example, if one was paid a salary for 07/08 of £5225.00 (with no other income form any other source) what is the net dividend that can be paid before the higher tax band kicks in?

Is it £34,600 or is that the gross dividend amount?

[IR35 Avoider]

what would happen to £89.00 that would remain in the company account after the distribution?

The £89 doesn't actually exist anywhere. If it helps, think of it as tax you owe that has already been paid into HMRC's bank account. Assume they set it aside out of the Corporation Tax the company paid, in whatever year the profit was made that funded the dividend. This isn't correct, but it helps you draw the right conclusions about your tax position.

In the olden days, before Gordon Brown brought his fiddling ways to the treasury, the amount you paid in Corporation Tax was exactly the same amount as the tax credit, so you could think of the tax credit as representing the corporation tax already paid. (You still can, if you're good enough at double-think to ignore the fact that the amounts are different.)

Why even have a credit if there is no gain for loss by any party?

There may be a gain or loss if your overall income makes you a higher-rate tax-payer. The credit, like the net dividend, uses up part of your basic rate band. If there was no credit, you could have an extra £89 of taxable income without becoming a higher-rate taxpayer.

[backlight]

I hope this helps:

Dividends are paid by a company to its shareholders as a distribution or share of the profits.

Dividends are always declared and paid net of tax at a rate of 10%.

This 10% tax credit is not actually paid by the shareholder or the company – it is treated by the Inland Revenue as a deemed payment of tax.

Provided that the recipient of the dividend is not a higher rate tax payer then no further tax will be due on the dividend. The dividend received would be treated as tax paid.

Higher rate tax payers will be liable for an additional charge on any dividends that exceed the higher rate threshold.

Example
Net Dividend £800.00 90%
Tax Credit £89.00 10%
Gross Dividend £889.00 100%

Basic rate and non-taxpayers will receive £800 with tax fully paid – there is no further liability.

Higher Rate Taxpayers will be liable for additional tax as follows:
Gross Dividend £889.00
Tax @ 32.5% £289.00
Less Tax Credit £ 89.00

Net Additional Tax Due £200.00 (=25% of net dividend)
Net Dividend after tax £600.00 (=75% of net dividend)

Alan

If the 10% tax credit is not actually paid by the shareholder or the company and it is treated by the Inland Revenue as a deemed payment of tax what would happen to £89.00 that would remain in the company account after the distribution?

Why even have a credit if there is no gain for loss by any party?

If this is the case does the £89.00 remain as retained profit for distribution in the future?

[hgllgh]

Well, thanks for all the replies.
At least I know I'm not mistakenly paying 0% tax

[ASB]

I think there is an historical reason why it's there [ I think at one point it wasn't there ! ]

Don't forget - not all companies pay dividends [ but they should all pay corp tax ].

What used to happen was that when a dividend was paid the company had to account for corporation tax on this amount (i.e. really pay it). The individual received a credit for this amount and this was reclaimed as the actual tax paid (and could also be reclaimed by non taxpayers). Any ACT paid by a company was offset against future actual calculated CT.

I expect this is a bit wrong in the detail but it was about 10 years ago the change took place.

[VectraMan]

I can see what sockpuppet is saying. Corp tax is paid on all profits which would explain why the div tax credit exists in the first place otherwise why would the tax credit be there at all.

It's a way of justifying it, but the two aren't connected in any legal or accounting sense (IANAL and IANAA). You can pay dividends years after the associated CT was paid.

CT was 0% for small business up until 4 or 5 years ago wasn't it? I don't know what happened to dividends back then - maybe it was 10% and the tax credit was brought in at the same time to make the increase in CT more paletteable. Sounds like a NL thing - 10% tax with a 10% credit. Why not just say it's 0%?

[Bluebird]

I can see what sockpuppet is saying. Corp tax is paid on all profits which would explain why the div tax credit exists in the first place otherwise why would the tax credit be there at all.

I think there is an historical reason why it's there [ I think at one point it wasn't there ! ]

Don't forget - not all companies pay dividends [ but they should all pay corp tax ].

[hgllgh]

I can see what sockpuppet is saying. Corp tax is paid on all profits which would explain why the div tax credit exists in the first place otherwise why would the tax credit be there at all.

[Bluebird]

Ok, so maybe I didn't explain it will. What I was basically trying to say what that you are sort of paying tax on these....through the profit your part of the company makes.

that makes even less sense than before ??