How are limited company dividends taxed?

Limited companies may decide to distribute their retained profits to shareholders. It is a popular method of drawing down funds by directors. Here, we look at how dividends are taxed, and how to ensure that you declare dividends correctly.

How do you declare dividends?

You can only distribute funds for your company from retained profits. This means you have to account for all outgoings (such as Corporation Tax liability, VAT and expenses) before distributing funds to shareholders.

If you have online accounting (such as FreeAgent), you will be able to see exactly how much retained profit is available for your company to distribute at any time.

You need to ensure that you have uploaded all of your invoices and expenses to ensure this figure is accurate. If you don’t have online access to this information, your accountant will be able to provide you with an accurate figure.

Before April 2016

For many years, when you received dividends, you also received a notional 10% ‘tax credit’ to compensate the recipient for the fact that the company would already have paid Corporation Tax on its profits before making the distribution to its shareholders.

The gross dividend (upon which you were taxed) was equal to 10/9 of the net dividend (the actual amount you received in your bank account).

Shareholders were taxed at 10%, 32,% and 37.% (basic, higher and additional rates). When taking the tax credit into account, this meant that basic rate taxpayers paid no tax on dividends at all.

The Government implemented a significant overhaul of the dividend taxation system from April 6th 2016, which resulted in a significant tax increase for many limited company shareholders.

How dividends are taxed (From April 2016 onwards)

All dividends are subject to dividend tax – which is split into 3 bands, according to which tax band the dividend income falls into. If dividend income falls between bands, you pay the appropriate rate for the amount falling in each band.

 

Income Tax Band	2023/24	Dividend Tax Rate
Basic	£0 - £37,700	8.25%
Higher	£37,701 - £125,140	33.75%
Additional	£125,140 or more	39.35%

Unlike salary, dividends are not subject to National Insurance Contributions, which is why many limited company directors opt to remunerate themselves with smaller salaries and take the main chunk of their income in the form of dividends.

Try our dividend tax calculator here.

What is the dividend allowance?

There is a dividend allowance which applies to the first £1,000 of dividends. Although this means that the first £1,000 of dividends you receive are not taxable, this doesn’t reduce the overall level of income you receive for tax purposes.

Despite being in place for just 2 years, the Government reduced the dividend allowance from £5,000 to £2,000 on April 6th 2018. This was cut further to £1,000 from April 6th 2023.

What paperwork do I have to complete?

A limited company has to hold a board meeting, during which the directors decided to declare a dividend – and record this decision in board meeting minutes.

The company has to provide all shareholders with a dividend voucher which details:

• The date of the dividend distribution.
• The limited company’s name.
• Name and address of the shareholder.
• The number shares held by the shareholder.
• The total dividend payable.
• A director’s signature.

You should post (or email) the voucher to all shareholders. Some online accounting packages will automatically generate vouchers for you.

How often can my company declare dividends?

There are no rules which determine how often you can declare dividends, although some suggest you don’t declare dividends too often – to prevent regular distributions appearing to be ‘disguised salary’.

Many small limited owners tend to pay dividends on a quarterly or bi-annual basis and opt to pay themselves a monthly salary.

What if you overpay dividends?

If you distribute dividends above the level of retained profits, they are illegal (‘ultra vires’).

Your accountant should be able to rectify errors by ensuring incorrect payments are repaid, and adjustments made to the company’s Directors’ Loan Account.

However, it is far easier to take extra care and only make legitimate payments in the first place.

Dividend tax calculator

Find out how much tax you will be liable for in the current tax year – use our dividend tax calculator.