If you run your business through a limited company, there will usually come a point where you want to take profits out of the company and use them personally.
For many owner-managed companies, the usual approach is a mixture of salary and dividends. Where the personal allowance is
still available, it can often make sense to take a salary up to the personal allowance, then take any further money as dividends.
So far, so straightforward. But things can get a little more interesting in a family company,
where there may be more than one shareholder.
Why dividends can be awkward
The important thing to remember is that dividends are not the same as salary or bonuses. With salary, you can choose what to pay each
person, subject of course to PAYE and employment rules. Dividends have company law rules attached.
Firstly, dividends can only be paid out of retained profits. In plain English, that means profits left in the company after corporation tax has been paid.
Secondly, if two people own the same class of shares, dividends must normally be paid in proportion to their shareholdings.
That can be limiting. For example, if two shareholders each own 50% of the ordinary shares, and the company declares a £50,000 dividend, each
shareholder gets £25,000. That might sound fair, but it might not be tax-efficient.
Bertie and Bella
Let’s take Bertie and Bella. As a little Liverpool nod, those are the names of the two Liver Birds. They each own 50% of Liver Birds Trading Limited. The company has £50,000 of profits available to distribute.
Bertie has no other income in 2026/27. Bella, however, has income of £200,000 from her property portfolio.
If the company pays a normal dividend, Bertie and Bella each receive £25,000.
Bertie can use his personal allowance and dividend allowance, meaning £13,070 is tax-free. The remaining £11,930 is taxed at 10.75%, giving him a tax bill of £1,282.47.
Bella also receives £25,000. Her £500 dividend allowance covers a small part of it, but the remaining £24,500 is taxed at 39.35%, giving her a tax bill of £9,640.75.
Combined tax bill – £10,923.22.
Now let’s look at what might happen with an alphabet share structure.
Under this structure, Bertie could own one A ordinary share and Bella could own one B ordinary share. Because they own different classes of shares, Liver Bird Limited may be able to declare different dividends on each class.
So instead of paying them £25,000 each, the company could pay:
• £49,500 to Bertie on his A share
• £500 to Bella on her B share
Bertie’s tax bill would be £3,916.25. Bella’s £500 dividend would be covered by her dividend allowance.
Combined tax bill – £3,916.25.
That is a saving of just over £7,000.
A word of warning
This does not mean alphabet shares are suitable for everyone.
They need to be set up properly, the company’s articles need to allow them, the paperwork needs to be right, and there can be anti-avoidance rules to consider, especially when family members are involved.
Alphabet shares are not a magic tax trick. You can’t simply add a family member to the company and pay them dividends just to reduce the family tax bill.
The structure needs to be commercially justifiable, properly documented and reviewed carefully. Otherwise, HMRC may
argue that the dividends should still be taxed on the original shareholder, especially if the new shareholder has little real involvement in the business or the shares are little more than a right to receive income.
But used properly, alphabet shares can be a very useful planning tool for family companies.
As ever with tax, the key is to get advice before doing anything. Sorting the structure properly at the start is much better than trying to fix it later.
If you run a family company and want to know whether your share structure is helping or holding you back, please speak to us.