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Dividends Explained

A basic guide to Dividends for Directors of micro-companies: how to pay, what to pay, and how to record in FreeAgent.

 

What is a Dividend?

  • A dividend is a sum of money paid by a company to its shareholder(s).
  • Dividends are paid from the company profits after corporation tax has been deducted.

 

Is paying myself in Dividends preferable to taking a salary? Or should it be in addition to a salary?

  • Ideally you want to pay yourself a small salary so you are still clocking years in work for National Insurance purposes (for State Pension and other benefits).
  • Whether you take a very basic salary (below paying any National Insurance) or a slightly higher salary (paying a very small amount of National Insurance) is your decision.
  • There are very clear tax savings though on keeping the salary element small and taking the rest of your ‘pay’ in Dividends.

 

How do I know what I can pay myself in Dividends?

  • There must be enough profits in the company after corporation tax has been deducted.
  • If you are a FreeAgent user you can see on your Overview page what the financial position of the company is from the ‘Profit & Loss’ box.
  • The bottom of the box shows ‘Retained Profit’ and to the right of that ‘Carried Forward/Distributable’.
  • The figure in ‘Carried Forward/Distributable’ is the amount you have available to pay yourself in Dividends at that time.
  • Apply caution though – remember FreeAgent only knows what you have told it about your income and expenditure!
  • So if, for instance, if you invoice a lot of contracts upfront but your expenses come later, or equally throughout the year, the figure here will only know about the invoices you have written, not the expenses which are yet to come. So you will need to keep this in mind when deciding what Dividend to take.

 

What if I pay myself more Dividends than the company’s profits after tax allow?

  • If you overpay dividends you will effectively owe money to the company. When this happens the Director’s Loan Account is overdrawn.
  • An overdrawn Director’s Loan Account at the end of the company’s financial year has taxation implications insofar as 25% of the overdrawn amount will be payable in additional corporation tax.
  • There can also be National Insurance implications for the company, and personal tax implications for the individual Director.
  • The basic rule here is be very careful not to overpay Dividends!!

 

How frequently can I pay myself Dividends?

  • As often as you like, although it’s usually best to make monthly payments to top up regular pay, with perhaps larger payments less frequently.
  • It’s common for Directors (shareholders) to take a larger dividend every 6 months after half a year of trading, then following year end when the profits after tax figure for the year is known.
  • Of course you don’t have to pay out all the profits after tax in Dividends at all. You can simply leave them in the company until such time as you want to take them out as Dividends – perhaps to cover 6 months off to go travelling, study, or to take a period of maternity…

 

I use FreeAgent accounting software, how do I record dividend payments in the system?

  •  Withdraw the money from your business bank account as a separate transaction from any salary or expenses payment (makes it easier to identify).
  • Once the relevant transaction has been uploaded into FreeAgent you can classify it as ‘money paid to user’ – ‘Director’s name’ – ‘Dividends’.
  • If you then look at ‘My Money’ – ‘ Dividends’ you will see a list of the Dividends you have paid yourself during each tax year. You will need this information for your personal (Self Assessment) Tax Return.

 

I’m looking at my Dividends history in FreeAgent and there is something about a tax credit – what is that, do I need to worry about it?

  • Dividends are paid to Directors (shareholders) after the company has paid tax on its profits. So HMRC affords any Dividend payments a tax credit of 10%.
  • For example, if you pay yourself a Dividend of £900, HMRC consider this to be a gross dividend of £1,000 as they apply a tax credit of 10% (or £100).
  • Confused? If you are, don’t worry! It is confusing!
  • The nutshell here is that the tax credit information is just that: information which will be required in order to do your personal (Self Assessment) Tax Return at the end of the tax year.
  • You don’t have to pay that 10% in tax. You don’t have to worry about it at all!

 

I’m concerned about my personal tax liability – do I need to put any money by to cover tax on Dividends I’ve paid myself?

  • If you are a basic rate taxpayer, then no.
  • Dividends are also not subject to National Insurance.
  • When you will need to put aside a little extra is if you are a higher rate taxpayer: i.e. if you total gross earnings including Dividends exceed £41,865 in 2014-15.
  • In this case you will need to pay an additional 22.5% in tax on the Dividends which fall outside the basic rate allowance.
  • For example if your gross earnings are £50,000 you will need to pay 22.5% tax on £8,135 of your Dividends (those which take you over the £41,865  limit for nil plus basic tax). Which is £1,830.38 tax to pay.
  • The tax here is actually 32.5% but as Dividends carry a 10% tax credit, you only need to pay 22.5%.

 

If you have any questions about Dividends,  FreeAgent accounting software, or any of my other services, please do not hesitate to contact me.

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Comments (26)

  1. Hi There
    I am starting a small side line company with a friend of mine doing some consultancy work. I also have a full time job earing 45500k per year. If we take dividends out of the company can you tell me how much tax we are liable for? I have been told it could be a much as 40% as we are both already in the 40% tax bracket with our salaries. Is it possible to keep the two incomes separate?

    Kind Regards
    Alan

    Reply
    • Hi Alan,
      You will need to declare all income to HMRC and the allowances / limits only apply the once for the total gross income.
      If you are already a higher rate tax payer your dividends will be subject to 32.5% tax, of which HMRC apply a 10% tax credit. So 22.5% will be left to pay at the end of the year.
      Myriam

      Reply
  2. I am regularly bringing in 3.5k – 4k a month with my full time sole-trader company. I have a need to go Ltd and am trying to work out how much salary a month I pay myself and how much in dividends. What I am concerned about is that almost all of that money is needed to pay the mortgage and general family living expenses. So I can’t afford to really keep much back as dividends. Trouble is most of that money comes from one source who are requiring me to go Ltd. Any advice would be much appreciated.

    Reply
    • Hi Stephen,
      In theory there should be no problem paying yourself monthly a mix of salary and dividends. If you are regularly bringing in 3.5K-4K I would imagine your profits will be able to accommodate your taking an equally regular renumeration. However, if you are getting most of your income from one client you will need to check whether that contract falls under the IR35 rules.
      You’re welcome to contact me if you need advice or further assistance…

      Reply
  3. Hi There,

    My wife and I are in the process of setting up a small business on top of our full time jobs.

    Whilst we will be putting all the monies earned back into the business and not taking a wage, would we be able to take a small dividend at the end of the financial year?

    For an example.

    If we are left over with 2k net profit after the years trading would we be able to claim say £250 each (£500), or would there be an issue if we haven’t claim a wage?

    This is mainly for information as the best course for the business would be to leave all money in the business for the next trading year.

    Thanks for reading
    Jamie

    Reply
    • Hi Jamie,
      Shareholders of a business are able to take dividends from the post tax profits where there are funds available, regardless of whether they also have a salary from the business. So there would be no issue with you taking £500 if your taxable* profits were £2K as this would leave you profits of £1,600 available for distribution as dividends.
      *Note that your net profit and taxable profits are not necessarily the same thing as there are some business costs which are not allowable for tax purposes, such as depreciation and business entertaining.

      Reply
  4. Hi,
    I am full time and my employer has suggested that I may be able to pay less tax if they pay me a lower wage and then a consultancy fee, (up to the full amount I’m on now) through me setting up a company. Do you see any problems, would this infringe IR35 for example?
    Many thanks.

    Reply
    • Hi,
      That would certainly fall within IR35 legislation and thus you wouldn’t save on tax and NI at all by operating through your own LTD.
      Myriam

      Reply
  5. i’m a shareholder and had to leave work due to illness, we were on min wage and topped up with dividends am i entitled to dividends if other shareholders are topping up there wages with dividends

    Reply
    • Hi,
      It depends on how your shares are set up in terms of your individual shareholdings and what rights to profits those shares carry.
      Your companies house paperwork from the time of incorporation should be able to tell you this. Or you can buy a shares report online from companies house. If you are all equal shareholders of ordinary shares then you all have equal rights to the profits. Other share structures may dictate that profits are distributed independently of one another using different share classes.
      Not a straight forward answer there I’m afraid.
      Myriam

      Reply
  6. Hi,

    My husband and I are directors of a limited small consultancy company that we have set up. We pay ourselves 833.33 per month and the rest in dividends. We have high outgoings and we are unsure about how best to pay ourselves and to keep tax bills to a minimum. Any advice would be much appreciated…thank you,

    Sarah.

    Reply
    • Hi Sarah,

      It sounds like you could do with formal advice and assistance from an accountant. This is a service I can offer but not in response to article comments. If you are looking for an accountant to work with you on the Ltd then please do get in touch.

      M

      Reply
  7. hi there.I have recently set up a limited company myself as a director and my wife as a 15% shareholder.I pay myself a small wage and also my wife as she is the secretary. Can my wife take dividends out to the 20% threshold as well as myself every year.

    Reply
    • Hi Mark,

      The dividends you and your wife can take are dictated by your shareholdings and the profits (after tax) available in the business rather than anybody’s tax rate bands. So if you have £10,000 available in after tax profits you are entitled to 85% of that in dividends, and your wife 15%.

      M

      Reply
  8. Hi there,
    Thanks for the helpful article.
    I’m a director of my own Ltd company andpay myself in dividends with a small salary every month.

    I have already submitted my PAYE accounts to my accountant, and have agreed not to take any more dividends until after Tax Year End. I know this is a stupid question but does this mean I can pay my dividend on the 5th or on the 6th April?

    Thanks!
    Verity

    Reply
    • Hi Verity
      Apologies that I didn’t reply sooner. I hope you checked this information with your accountant! They should be willing and able to confirm this kind of information to you very quickly if ever you have any other questions of this sort.
      For future reference the tax year ends on 5th April, so the first day of a new tax year is the 6th April.

      Reply
  9. Hi
    I’ve just gone ltd and I was told for HMRC reasons it’s best to take out all my salary, dividends and expenses each month. I was wanting to just take my salary and leave the dividends and expenses as a bonus (luckily I can afford to just live off the salary) could you tell me if this is true? Or can I leave the expenses and dividends in my business account until I need it?

    Thanks

    Reply
    • Hi Lisa,
      You can take the dividends and expenses out as and when you require these.
      In order to take dividends there needs to be sufficient profit. But there is no requirement to take this out when it’s there. You can leave it in the company as long as you want.

      Reply
  10. Hi,
    I set up a limited company in October last year but as yet I have not taken out any money as I have a part time job as well. How do I pay myself from the company, do I have to set up PAYE and deduct tax and NI please?

    Reply
    • You could set up a PAYE scheme and pay salary. Or if there are sufficient profits to do so, you could simply take dividends out while you are working elsewhere.

      Reply
  11. If you only take dividends and no salary out of a ltd company how do you pay NI contributions and how much are they?

    Reply
    • No NI contributions are due on dividend payments

      Reply
  12. Hi,

    If I physically pay a dividend of £3500 what do I show on the dividend notice?

    Is it a net dividend of £3500 and then gross of £3850?

    How is the 10% tax actually paid?

    What figure do I include in my corporation tax – is it £3500 or £3850?

    Totally confused!!

    Reply
    • Hi Anne,

      If you physically pay a dividend of £3,500 this represents 90% of what you need to show on the dividend notice.

      So you calculate £3,500 / 0.9 = £3,888.89 gross dividend.

      The 10% tax credit is not an actual tax. It’s why the ‘grossing up’ of dividends is necessary. And when you do your self assessment return this 10% tax credit will be applied to you gross dividend income. It is confusing, but almost certainly set to change in 2016!

      In your company accounts the dividends you include are the amounts actually paid. So £3,500.

      Since dividends are paid from profits which have already been subject to corporation tax, they are not relevant to your corporation tax return at all.

      I hope that helps.

      Reply
  13. Hi there,

    If I am a shareholder in several companies will I still only pay 10% Tax if each one pays me dividends of less than £31,785 or will it be the combined amounts from each company?

    Reply
    • Hi Roberto,

      If your total income including the combined gross dividends from all the companies does not exceed the higher rate tax threshold you will pay no tax on the dividend income under the current rules.

      Reply

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