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HMRC clarifies new dividend tax rules: what you need to know

Joanna Faith
Written By:
Joanna Faith

HMRC has clarified changes to the dividend tax regime, which were first announced by George Osborne in his summer Budget.

Here’s what you need to know:

What has changed?

The current dividend tax credit will be replaced by a new tax free dividend allowance of £5,000 a year.

This means you will not have to pay tax on the first £5,000 of your dividend income.

When will the changes come in?

6 April 2016.

How much tax will I have to pay on dividends I receive over £5,000?

Basic rate taxpayers will pay 7.5% tax on any additional income, higher rate taxpayers will pay 32.5% and additional rate taxpayers 38.1%

Will the new rules impact dividends paid within ISAs or pensions?

No. Dividends received by pension funds that are currently exempt from tax, and dividends received on shares held in an Individual Savings Account (ISA), will continue to be tax free.

Will the dividend allowance reduce my total income for tax purposes?

The dividend allowance will not reduce your total income for tax purposes. However, it will mean that you don’t have any tax to pay on the first £5,000 of dividend income you receive.

Dividends within your allowance will still count towards your basic or higher rate bands, and may therefore affect the rate of tax that you pay on dividends you receive in excess of the £5,000 allowance.

Who are the winners and losers of the new regime?

Basic rate taxpayers: if you receive dividend income of £5,000 or less, you will be no worse off and your income will remain the same. For dividend income of £5,000 or more, you will pay 7.5% more tax on the excess. Hargreaves Lansdown calculates that £12,000 worth of dividend income currently has no further tax liability but from 6 April it will incur a £525 tax charge.

Higher rate taxpayers: the new regime will benefit some higher rate taxpayers. Hargreaves Lansdown calculates that the break-even point  – the point where the tax due under the current system equals the tax on the new system –  is dividend income of £21,667. Therefore, higher rate taxpayers are better off as long as their dividend income does not exceed £21,667, but worse off if their dividends exceed this level.

Additional rate taxpayers: The £5,000 of tax-free dividends means that additional rate taxpayers will be better off under the new regime providing their dividend income does not exceed £25,401, their break-even point, according to Hargreaves Lansdown. But worse off if their dividends exceed this level.