Contractor dividends in 2025/26 as a limited company be like…

If you’re a seasoned limited company contractor, you should be well-versed in making the most from your take-home pay through the tax-efficient use of combining your salary and dividends.

Sticking to what we know about dividends...

But with rumoured changes in dividend taxation on the horizon, which may result in them being less tax-efficient from or after Autumn Budget 2025, the wisdom on dividends could be upended.

Without having a crystal ball, and now that 2025/26 is well underway, let’s lay down some limited company contractor dividend dos and don’ts that we contractor accountants know about and can advise on -- definitely and right now, writes Dan Mepham, managing director of SG Accounting.

What is a dividend?

A dividend represents a portion of a company's post-tax profits that is distributed to its shareholder(s).

Dividends may only be issued if the business has generated sufficient retained profits.

What are ‘Sufficient Retained Profits?’

Sufficient retained profits are earnings for the company that remain after covering all necessary obligations, such as:

• Corporation Tax;
• VAT;
• Operating expenses, and;
• Any other liabilities.

For many limited company contractors, dividends are a preferred method of extracting income, as they tend to be more tax-efficient under HMRC’s current rules and rates than drawing a large salary.

This dividend-salary combination provides a return on the shareholder’s investment in the business, rather than being treated as a direct employment cost.

When is best to draw dividends, and what about dividend documents?

Dividends can be taken by directors at any time, as long as your limited company has enough retained profit to support the payment.

When issuing a dividend, it’s important to properly document the decision.

And ‘proper documentation’ includes producing a dividend voucher for each shareholder and recording the transaction.

Keeping accurate records not only ensures compliance with HMRC in the event of a tax enquiry but is also essential for preparing shareholders’ self-assessment tax returns.

How much salary is tax-efficient in 2025/26?

As a contractor running your own limited company, you have flexibility in setting your salary -- particularly if you're the sole director and employee.

However, there are several tax and financial factors worth weighing before deciding on your director's salary figure for 2025/26.

First, keep in mind that salaries are treated as a deductible business expense, which means they reduce your company's corporation tax liability. The good news is that if you're a director, you're not bound by the National Minimum Wage regulations, giving you the freedom to choose how much you pay yourself.

Best director salary for 2025/26: four factors

That said, your salary decision for the 2025/26 tax year should take into account four key factors:

1. Your company's ability to afford the salary;
2. Key tax thresholds and National Insurance (NI) limits.
3. The minimum income level required to build state pension entitlement.
4. Eligibility for schemes like childcare support.

For 2025/26, the tax-free personal allowance remains at £12,570 -- unchanged from recent years.

Any salary above this threshold will attract income tax. Choosing a salary at or below this limit is often considered a tax-efficient strategy for many limited company contractors (also known as Personal Service Company directors).

HMRC dividend tax rates for 2025/26

Dividends are not subject to National Insurance but are subject to income tax (albeit at a different rate to salaries), with currently a 0% tax rate for the first £500.

The rates on dividends for 2025/26 are as follows:

• Personal allowance: up to £12,570 at 0%
• Basic rate: £12,571 - £37,700 at 8.75%
• Higher rate: £37,701 - £125,140 at 33.75%
• Additional rate: £125,141 + at 39.35%

What National Insurance considerations should I make as a director?

There are both employee and employer National Insurance considerations for limited company directors.

A director will pay employee National Insurance contributions on their salary. Below £12,570, the employee NIC rate is 0%; rising to 8% between £12,570, and £50,270, and then the rate is 2% above £50,270.

An employer is also liable to pay employer NIC, which is 0% on a salary below £5,000 and 15% above £5,000.

Employment Allowance: eligibility

There is an Employment Allowance available from HMRC for some employers, with the effect that the first £10,500 of Employer NI is removed.

However, the Employment Allowance is not available to sole-employee companies.

The Employment Allowance was increased at Autumn Budget 2024,  when it was more than doubled for the 2025/2026 tax year, from £5,000 (2024/25).

When are dividends taxed by HMRC, and by how much?

Dividends become taxable on the date that they are declared as payable.

For example, a dividend declared on October 10th 2024 as payable on April 10th 2025, would be subject to tax in the tax year April 6th 2025 to April 5th 2026.

Let’s take another example.

A dividend declared on October 10th 2024 as payable on April 4th 2025, would be subject to tax in the tax year April 6th 2024 to April 5th 2025.

If you’re still unsure, check with your accountant to ensure you’re aware of the tax implications of drawing dividends at specific times throughout the year.

The amount of tax payable to HMRC will depend on which tax band you fall into.

Dividends example (continued)

For example, if you were to take a salary of £12,570 (£1,047.50 a month) and draw dividends up to the higher rate threshold of £50,270, the income tax payable would be £3,255 per year (£50,270 minus £12,570 personal allowance minus the £500 tax-free dividend allowance = £37,200 * 8.75% = £3,255).

We just mentioned the dividend allowance.

See below for more details. It’s one of the frequently asked questions on dividends that limited company directors tend to have!

Contractor dividend FAQs: six common dividend queries in 2025/26

1. What is the Dividend Allowance?

The dividend allowance is the tax-free amount of dividends that HMRC allows a limited company director to receive.

The allowance started life at £5,000 in 2016, but it’s only £500.00 for 2025-26.

This tax-free allowance is one of the potential changes to dividends referred to at the top (although only one MP is seeking the change).

2. Are dividends still more tax-efficient than salary?

Yes. Dividends generally remain more tax-efficient than taking all income as salary, thanks to their lower tax rates and exemption from National Insurance Contributions (NICs).

As a result, dividends continue to play an important role in tax-efficient income planning for many contractors.

However, the least-taxing, and therefore the optimal income strategy varies from contractor-to-contractor.

Therefore, it’s essential to get tailored advice based on your full financial picture.

Factors such as pension contributions, childcare support, charitable giving, and even any plans for applying for a mortgage (or other lending), can all influence the ideal salary-dividend split.

3. Dividend mistake! What happens if I pay dividends incorrectly?

HMRC may reclassify an incorrectly paid dividend as a disguised salary, under the IR35 legislation. You might face penalties, interest, and backdated NICs and tax.

4. Can I backdate a dividend?

No. Dividends should be dated on or after the board meeting and voucher.

5. Can I pay myself only in dividends?

Yes. As a director and shareholder of a limited company, you don’t have to withdraw a salary – i.e. taking a salary is not a legal requirement.

However, it is worth remembering that dividends can only be paid from company profits after corporation tax.

6. Can I pay a dividend if my limited company makes a loss this year?

Yes. This can indeed be done, but only if there are retained profits built up from previous years to allow you to do so. You cannot pay dividends from capital or when your company is insolvent.