Tax on dividend income and a rise in National Insurance have recently been announced by the Government in order to address the UK’s social care system.
Dividend tax rates for the current (2021/22) tax year are:
Basic rate – 7.5%
Higher rate – 32.5%
Additional rate – 38.1%
From next tax year (2022/23) beginning April 2022 the rates are expected to increase by 1.25 percentage points to:
Basic rate – 8.75%
Higher rate – 33.75%
Additional rate – 39.35%
This will affect many company directors and self-employed individuals who pay themselves in dividends, as well as many ordinary investors receiving significant dividend income from shares and funds held outside of tax-efficient wrappers such as ISAs.
National Insurance contributions will temporarily rise by 1.25 percentage points from April 2022 for those below State Pension Age. This takes the standard rate to 13.25% for employees and 15.05% for employers. Self-employed people will pay 10.25%, compared to 9% currently on Class 4 contributions. National Insurance contributions apply to those with at least £9,500 of earnings per year.
The National Insurance hike will be replaced by a separate health and social care levy from April 2023, which has the same effect but will also be paid by pensioners still in employment.
How to save more tax
- Use your tax-efficient allowances
This latest government move is a reminder that tax rules can always change. However, investors using ISAs to provide dividend income are unaffected. Income from ISAs is tax free, as are any capital gains arising. For pensions such as SIPPs there is also no change – dividend income is received tax free, albeit income drawn from pensions is taxable.
- Use your dividend allowance
A personal dividend ‘allowance’ of £2,000 has survived the rule changes from next year. You can receive this much income from shares and other dividend-paying investments without paying tax. For instance, if you are obtaining a 5% dividend yield from a portfolio worth £40,000 outside any tax wrapper this allowance may cover you. It is important to note that this allowance sits on top of your personal allowance, which is £12,570 a year presently. This larger tax free allowance covers all income, but it is set to be frozen for the next four years having previously risen with inflation.
- Make a pension contribution
Contributing to a pension can have the effect of lowering your taxable income, and you receive tax relief at your highest marginal rate. You can contribute up to your employed or self-employed earnings each year subject to a maximum of £40,000, although there is a lower allowance for very high earners or those taking drawdown pension income. It is also possible to ‘carry forward’ unused allowances from the previous three years subject to sufficient earnings in the tax year you make the contributions. Please note benefits depend on circumstances and this area can be complex, so it is worth considering regulated advice.
- Rearrange assets between husband and wife
If you are married or in a civil partnership and have significant dividend income it may benefit you to transfer assets to or from your partner. This could help maximise two £2,000 dividend allowances and/or take advantage of lower income tax bands where one partner’s income is lower. Importantly, transfers of assets between spouses are not generally subject to capital gains tax.
- Sacrifice your salary
Some employers operate ‘salary sacrifice’ or ‘bonus sacrifice’ arrangements whereby entitlement to cash pay is reduced in return for employee benefits or pension contributions. This can save both income tax and national insurance.
Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.