If you run your business as a limited company, dividends offer a tax efficient way to draw money out of your business. But make sure you get your paperwork – and your sums – right in order to stay on the right side of the law.
A dividend is a payment of profit from a limited company to its shareholders. This is the money the company has remaining after paying all business expenses and liabilities, plus any outstanding taxes (such as Corporation Tax and VAT). This ‘retained profit’ may have been accumulated over a period of time and any excess profits not distributed as dividends simply remain in the company’s bank account.
If you run a small business operating as a limited company, there may be are tax advantages to paying yourself a combination of a small salary and dividends.
You can only pay a dividend if there is sufficient retained profit in the company to cover it. Otherwise, the dividend may be illegal and you may be subject to HM Revenue and Customs (HMRC) penalties. You should also make sure that you leave enough money in the company to cover day-to-day cash flow. If you use an accountant, they should be able to help with this.
There are no rules about how frequently dividends can be paid, but most businesses distribute them quarterly or every six months after working out how much the company can afford to pay.
Think carefully about when to pay dividends from your limited company, because it might affect both the amount of tax you pay and when you need to pay that tax to HMRC.
1. The timing of a dividend can affect the amount of tax you pay.
If your business profits are volatile from year to another, you can use dividends to create a more even income pattern and avoid paying higher rate tax. For example, if your business has profits of £50,000 in year 1 and £10,000 in year 2, you could declare a dividend of £30,000 in each year to make sure that you remain a basic rate taxpayer in each year.
2. The timing of a dividend can affect when you need to pay tax to HMRC.
Tax on dividends is usually due in the January after the end of the tax year in which the dividend was paid. So, tax on a dividend received in late March 2017 will be due in January 2018, but tax on a dividend received in late April 2017 won’t be due until January 2019.
For the 2018/19 tax year, the tax payable on dividends is as follows:
|Tax band||Tax rate on dividends over £2,000|
|Basic rate (and non-taxpayers)||7.5% on earnings up to £34,500.|
|Higher rate||32.5% on earnings above the basic rate up to £150,000.|
|Additional rate||38.1% on earnings above £150,000.|
From 6 April 2018, you won’t pay tax on the first £2,000 of dividends that you get in the tax year. This is from 6 April to 5 April the following year.
Above this allowance the tax you pay depends on which Income Tax band you’re in. Add your income from dividends to your other taxable income when working this out. You may pay tax at more than one rate.
You’ll need to produce two documents every time your company pays a dividend to its shareholders.
Board meeting minutes: To comply with the law, all companies must hold a board meeting to agree the dividend declaration, and must record the meeting minutes in the company’s records. For small companies, this is often little more than a paperwork exercise.
Dividend voucher: You must provide each shareholder with a dividend voucher. An electronic version is fine, if previously agreed by shareholders, or the company should send out a paper version in the post to each shareholders.
The voucher should include:
You must ensure you maintain the correct paperwork, including minutes of board meetings. These may need to be produced if you are ever selected for an HMRC investigation.
According to many accountants, there’s a risk that you can fall foul of HM Revenue and Customs (HMRC) rules if you pay dividends without following a formal process or maintaining suitable records. If you’re unable to prove that money paid to you from your business is a dividend, HMRC may argue that it should be treated as a salary payment, and taxed accordingly.
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