Summer Budget 2015: what the dividend tax hike means for owner managers Small business tax specialists Harris & Co chartered accountants Northampton casts their eye over the proposals to raise the dividend tax rate and the introduction of a new tax-free 5,000 allowance announced in the Summer Budget and ask whether it will simply force owner managers to change their behaviour Following changes to dividend tax announced in the Summer Budget, which introduced the new annual dividend allowance at 5,000, HMRC has produced a factsheet on how the the new tax-free dividend allowance will work. The new rules will hit the majority of owner managers who currently use a low salary/high dividend remuneration structure. The imputation system designed over 40 years ago to prevent double taxation of corporate profits will be consigned to fiscal history on 6 April 2016. In its place, Chancellor George Osborne unveiled a progressive series of dividend tax rates that will start from 2016/17. From 2016/17, the new dividend tax regime brings in higher tax rates. A summary of the impact of the tax costs (including corporation tax) of paying dividends out of a typical owner-managed company is:
Basic rate(20%) Higher rate(40%) Additional rate(45%)
Effective tax rate (2016/17) 26.0% 46.0% 50.5%
Effective tax rate (2015/16) 20.0% 40.0% 45.0%
Owner-managers will quickly see that there are significant tax increases for those that use a low salary/high dividend profit extraction model. The 2016/17 increases in dividend tax will almost eliminate the tax differential between bonuses and dividends. Dividends become only marginally preferred:
Effective tax rate 2016/17 49% 46%
Comparable effective tax rate 2015/16 49% 40%
Many owner managers are likely to consider accelerating dividend payments before April 2016 to benefit from the current lower rates. Bringing forward dividends to the current tax year means advancing the tax due on the dividend but this disadvantage will be outweighed by the tax savings. The new regime may encourage more owner managers to live off overdrawn loan accounts at a reasonable tax rates. There have been recent proposals though to increase the 25% section 455 tax charge [under Corporation Tax Act 2010 (CTA 2010)] on loans to participators. This is almost certainly going to come back into focus to avoid this type of structure. There are also significant risks in the loan route, especially if the company were to get into financial difficulties.