Dividend question

[Spike]

Hi, I have a question with regards to dividends and total net pay. If higher rate tax kicks in at anything over £38335 are most of us just taking the 40% hit if we draw anything over ? I'm in my first year of contracting and I don't see myself coming out on this. I'm curios whether anyone else is in the same situation.

[PAG]

Yes, you generally take the hit.

[VectraMan]

You have to pay the tax. It's only fair.

It's not 40% though.

Happily the amount of surplus funds the board of my company decided were appropriate for distribution have taken me to more or less exactly the higher rate limit for 06/07.

[Spike]

You have to pay the tax. It's only fair.

It's not 40% though.

Happily the amount of surplus funds the board of my company decided were appropriate for distribution have taken me to more or less exactly the higher rate limit for 06/07.

Hi Vectra, what do you mean it's not 40% ?

[IR35 Avoider]

Your other options are to leave the surplus in the company, to be taken out in some future year when your other income is low, or pay an employer contribution to a pension scheme. The pension route has two advantages: it ensures that there isn't money left in the company for the tax man to raid, and, more specifically, it means that particular chunk is immune from an IR35 challenge some time in the future. (The amount that goes to pension is the sum you could have kept/distributed plus the corporation tax you would have paid on it.)

[Hex]

"Hi Vectra, what do you mean it's not 40% ?"

Tax on dividends is 10% basic rate and 32.5% higher rate.
You get 10% tax credit to take off this.

The upshot is that dividends are tax free for basic rate tax payers, but a further 22.5% (of the gross dividend) is payable by higher rate tax payers.

So if your dividends take you into the higher rate tax bracket you have to pay a further 22.5% of the grossed up amount.

Your accountant should be able to give you a worked example.

[ASB]

But it's not really 32.5% is it? Since tax is suffered @ 19% but you only get a 10% credit.

for the sake of easier numbers assume > 50k profit and all standard rate income alrerady used elsewhere:-

Profit 50-60k = 10k - 1900 CT = 8100 Net.

Dividend of 8100 (+900 tax credit = 9000).

Higher rate tax = 8100 * 25% (or 9000 @ 22.5% if you prefer) = 2025

Total retained = 6075

Of course its even worse if the company doesn't get the smallers co's rate of CT since they would need 11571 to generate the distributable 8100.

[Spike]

Thanks for the feedback all