What are the benefits of paying dividends from my company?

How do limited company directors pay themselves?

Directors of limited companies cannot simply withdraw money from the business in the same way as sole traders.

Instead, they usually receive income in one or more of the following ways:

• Salary: paid through the company’s payroll and subject to Income Tax and, where applicable, National Insurance.
• Dividends: paid to shareholders from the company’s distributable profits.
• Reimbursement of business expenses: where appropriate and in accordance with HMRC rules.
• Pension contributions: the company may also make employer pension contributions on behalf of a director.

For many owner-managed companies, a combination of salary and dividends can be an effective way of taking income from the business. However, the most tax-efficient approach will depend on factors such as the company’s profits, the director’s other income and the tax rules that apply at the time.

If you’re unsure which approach is right for your circumstances, consider seeking advice from a qualified accountant or tax adviser.

Use our online tax calculator to estimate the tax payable on dividend income.

Who can benefit from dividend payments?

Dividends are payments made by a company to its shareholders from its distributable profits.

Only shareholders are entitled to receive dividends. If you’re a director but don’t own shares in the company, you won’t normally be entitled to receive a dividend.

Where a company has more than one shareholder, dividends are usually paid according to the rights attached to each class of shares and the number of shares held. This means that shareholders with different shareholdings, or different classes of shares, may receive different amounts.

Many small owner-managed companies have a single shareholder who is also the director. In these cases, any dividend declared is normally paid to that individual.

What are the advantages of dividend payments?

For some owner-managed limited companies, taking a combination of salary and dividends can be an effective way of receiving income from the business.

Potential advantages include:

• Tax efficiency:  depending on your personal circumstances and the current tax rules, receiving part of your income as dividends may result in a lower overall tax liability than taking the same amount entirely as salary.
• Flexibility: unlike salaries, dividends do not have to be paid at regular intervals. They can be declared when the company has sufficient distributable profits and the directors decide it is appropriate.
• Rewarding shareholders: dividends provide a way of distributing profits to shareholders who have invested in the company.

However, dividends are not always the most tax-efficient option. They can only be paid if the company has sufficient distributable profits, and the tax advantages have reduced in recent years as dividend tax rules have changed.

Before deciding how to pay yourself, consider both the company’s financial position and your personal tax circumstances. 

How are dividends taxed?

You may need to pay tax on dividends you receive from your company.

The amount of tax you pay depends on:

• your total taxable income for the tax year;
• the amount of dividend income you receive; and
• the current dividend tax allowance and dividend tax rates.

Dividend income is added to your other taxable income, such as salary or pension income, when determining the rate of tax that applies. This means different parts of your dividend income may be taxed at different rates.

The dividend tax allowance and tax rates can change from one tax year to the next, so it is important to check the rates on HMRC’s website.

What are the risks with dividend payments?

Dividends should only be paid if the company has sufficient distributable profits and can continue to meet its financial obligations.

Before declaring a dividend, the directors should consider:

• whether the company has sufficient distributable profits;
• whether the company will have enough cash to pay suppliers, employees and taxes when they are due;
• the company’s future investment and working capital needs; and
• the impact of the dividend on the company’s overall financial position.

Paying dividends that the company cannot afford may leave it unable to meet its day-to-day commitments or future tax liabilities. Dividends paid without sufficient distributable profits may also be unlawful and could have legal and tax consequences.

When might dividend not be the right option?

Dividends aren’t suitable in every situation.

They can only be paid if the company has sufficient distributable profits and can continue to meet its financial commitments. If profits are low or unpredictable, or the business needs to retain cash to fund growth or cover future costs, paying a dividend may not be appropriate.

Directors should also remember that dividends are not guaranteed. Unlike a salary, they can only be declared when the company’s financial position allows.

Before deciding how much to pay yourself, consider:

• the company’s profitability;
• its cash flow and future commitments;
• your own personal income needs; and
• the potential tax implications of different methods of taking income.

A combination of salary and dividends may be appropriate for some owner-managed companies, but the right approach will depend on your circumstances.

If you’re unsure, seek advice from a qualified accountant or tax adviser.