The tax-free dividend allowance is available to everyone, with the amount being the same for all. The allowance is £2,000 for the 2019/20 financial year, but it can be lost if you do not use it in time. As the tax year end is approaching, read this blog to find out how to make the most of it.
What is the allowance?
The dividend allowance is a nil rate band. Dividends which fall within that band are taxed at 0%.
How are dividend allowances used?
Paul is a basic rate taxpayer. After accounting for his salary, he has £10,000 left of his basic rate band. Paul then receives a dividend income of £3,000.
As mentioned previously, the first £2,000 of dividend earnings are covered in his allowance so it is tax free.
The other £1,000 is over the threshold, so is taxed at the dividend ordinary rate of 7.5%. This means Paul must pay £75 tax on the dividends.
What about family companies?
Family companies can organise shareholding, meaning dividend income can be shared around family members – taking advantage of the dividend allowance and reduce taxation. This is a good idea when the family member has no other shares, which would mean the allowance would remain unused.
An alphabet structure for dividend sharing can be useful. This is when each person of the family has their own class of share. This preserves the ability to adapt dividend payments in relation to the shareholder’s current circumstance.
For example, Joanne’s company, ABC Ltd. has profits of £70,000 and she wants to withdraw them as dividends. All five family members work outside of the business and none of them have other income from shares.
Since each family member will have a dividend allowance of £2,000, an alphabet share structure is utilized. Each of the five family members then receive a dividend of £2,000, allowing dividend payments of £10,000 tax free. If Joanne had not used this structure, the £10,000 dividend payments would have been taxed at the higher rate of 32.5%. This has now reduced the overall tax bill by £3,250!
Are there any other tips?
If a spouse or civil partner has substantial shareholdings in a business, and their partner has none (meaning that their dividend allowance is going to be lost), it can be beneficial for the shareholding partner to transfer shares to their spouse/civil partner. As such, there will be a greater deal of tax-free dividends.
It is also recommended to seek the advice of a professional, as there are many ways of strategizing to make good use of the 2019/20 dividend allowance.
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