The government announced at the summer 2015 Budget, that a new dividend allowance of £5,000 will be introduced from 6 April 2016. Broadly, from that date, it is expected that the existing dividend tax credit will be abolished, a new annual dividend tax allowance of £5,000 will be introduced, and the rates of tax on dividend income will change. The legislation introducing the dividend tax changes has not yet been published and the rules outlined below are therefore still subject to possible change.
From April 2016, the 10% non-refundable dividend tax credit that currently attaches to dividends will be abolished, the dividend tax allowance will take effect, and the rates of tax on dividend income exceeding that allowance will be 7.5% for basic rate taxpayers, 32.5% for higher rate taxpayers and 38.1% for additional rate taxpayers. The dividend allowance will be available to anyone who has dividend income. However, it has been designed in such a way that those with significant dividend income will pay more tax than those with smaller amounts.
The new rates of dividend tax will apply only to the amount of dividends received in excess of £5,000 (excluding any dividend income paid within an individual savings account (ISA)). It is important to note that the dividend allowance will not reduce total income for tax purposes, and dividends within the allowance will still count towards the basic or higher rate tax bands. This means that the dividend allowance is effectively treated as a zero rate of tax on the first £5,000 of dividends. This differs from other tax allowances (for example, the personal allowance) which are deducted from taxable income.
Dividends received by pension funds that are currently exempt from tax, and dividends received on shares held in an ISA, will continue to be tax free.