What is the dividend allowance?

In April 2016, as part of a major dividend tax overhaul, a new ‘dividend allowance’ was created – a nil-rate tax band on the first £5,000 of dividend income. This allowance has shrunk over time – a mere £500 from April 2024 onwards.

April 2016 changes to dividend taxation

Although the allowance itself may appear to be a tax giveaway, it was announced as part of much wider changes to the way dividends are taxed.

Before April 2016, dividends were paid ‘net’ to shareholders, who also received a tax voucher to account for the fact that company income had already been subject to Corporation Tax.

These net dividends were multiplied by 10/9 to produce the ‘gross’ dividend upon which income tax was payable.

A much less complicated, but far more punitive dividend tax regime was introduced in April 2016. All dividend income on top of the £5,000 dividend allowance is now taxed at a fixed rate, according to the tax band the income falls within. 

As a result of the reforms, almost all company owners pay significantly more tax on dividend income than they did before.

Changes to the dividend allowance from April 2018

Chancellor Philip Hammond first announced the allowance reduction from £5,000 to £2,000 during the Spring 2017 Budget, however the measure was dropped from the first Finance Bill 2017 due to the General Election.

Despite wishful thinking from shareholders all over the UK, the measure was reintroduced in the second Finance Bill 2017 and became law on 16th November 2017.

Dividend allowance cut to £500 from April 2024

On 17th November 2022, the Chancellor announced that the allowance will be cut from £2,000 to £1,000 from April 2023, and to a mere £500 from April 2024 onwards.

How does the dividend allowance work in 2025/26?

Put simply, you don’t pay any tax on the first £500 of dividends you draw down during the tax year.

However, importantly, the allowance does not reduce your total income for tax purposes. Many people don’t take this point into account when calculating their potential tax liability.

For example, during the 2025/26 tax year, for a small company owner earning a £6,500 salary and £43,770 in dividends (using the entire basic rate tax band), you calculate your dividend tax liability as follows:

• Your £6,500 salary is less than the £12,570 personal allowance, so no tax is payable.
• The first £6,070 of dividends use up the rest of the £12,570 tax-free personal allowance.
• The dividend allowance covers the next £500 of dividends but uses up £500 of the basic rate tax band.
• The next £37,200 of dividends are taxed at the basic rate (8.75%) = £3,255.
• The total dividend tax bill for the year is £3,255

Find out more

For the official description of this tax measure and examples, click here.