Rayner just told Reeves to raid dividends. The end of the line for contractors?

Angela Rayner’s leaked memo to Rachel Reeves might at first glance seem like a wonkish wish list of Labour-leaning tax reforms.

But for contractors, especially those operating through their own limited company, two of the memo’s proposals amount to a double-hit on one of their last remaining tax planning tools -- dividends, writes chartered accountant Anthony Mellor, founder of Mellor & Co.

What dividend changes does Rayner want from Reeves?

Rayner suggests in the memo equalising dividend tax rates with income tax.

The deputy PM also asks the chancellor to abolish the £500 annual tax-free dividend allowance.

Either would represent a significant imposition on the contractor’s lot.

But combined, the two requested changes to dividends would be devastating to the take-home pay of the UK’s contractor workforce.

These are the very people already bruised by IR35 reforms (including blanket ‘inside’ determinations), umbrella company compliance risks, and an opaque umbrella company tax compliance plan from April 2026.

Where did the ‘dividends’ Rayner-Reeves memo come from?

The memo was first obtained by The Telegraph (later covered by The Independent here), and because it has a range of tax-related asks, it has been ably dissected here by Tax Policy Associates.

But exclusively for readers of ContractorUK, I want to focus on what the sought dividend changes would mean in real terms, both in financial and political terms, through the lens of the one-person contractor limited company, whose accounting affairs we specialise in.

Rayner’s two dividend changes may be unveiled at Autumn Budget 2025

The first dividend proposal in the leaked Rayner memo is below.

I shall phrase it in the fashion that Autumn Budget 2025 (tbc) could potentially announce the change in, during the fourth quarter of this year.

The government will tax dividends at the same marginal rates as salary income by equalising dividend and income tax rates.

The second dividend proposal in Rayner’s memo is to axe the tax-free dividend allowance (currently £500).

The government will end the generosity of the dividend allowance, by abolishing this tax-free sum from 2026-27.

The tax-free dividend allowance’s generosity in the crosshairs again

Abolishing the dividend allowance appears to be the end game that chancellor Jeremy Hunt started. It was his Conservative government which, when reducing the tax-free dividend allowance at Autumn Budget 2022, justified the reduction by talking of the allowance’s “generosity”.

But remember, the allowance was originally £5,000. And it was presented back when it was introduced in 2016 as a vital protection for pensioners.

Death by a thousand cuts

When the allowance was pared back to £500, I saw some (presumably) well-heeled contractors say, “Big deal, it’s only £44 a year more that’ll go to HMRC.”

Likewise, should Reeves now only half-listen to Rayner -- and cut the dividend allowance to a token £250 -- it’s only £22 a year difference.

But to some limited company directors, it will feel like death by a thousand cuts. And the Treasury won’t be sniffing at the £325million that Rayner says cancelling the tax-free dividend allowance would raise for the exchequer.

Dividends 2025-26: rates and bands

For fuller context, let’s recap the current dividend tax regime (2025–26):

Band   Tax Rate

Basic rate (up to £50,270)      8.75%

Higher rate (£50,271–£125,140)  33.75%

Additional rate (over £125,140) 39.35%

Dividend Allowance £500

Why income and dividend taxation aren’t aligned

Compare the above percentages to the UK’s income tax rates of 20%; 40%, and 45%, at the same income thresholds, and you can see the ‘gap’ Rayner is targeting.

But that gap exists for a reason.

Companies pay dividends from their profits after 19% or 25% corporation tax.

The government already taxes a contractor’s income once before they receive a dividend and then have to pay additional tax to HMRC. Removing the difference between dividend and salary tax rates risks double-taxation.

What’s the cost of Rayner’s sought dividend changes?

To tot up the financial damage of the two dividend ideas, let’s take the example of a typical contractor limited company drawing a modest salary (say, £12,570 -- the personal allowance). And then receiving the rest as dividends.

Example of ‘Typical Ltd:’

Item   Amount

Turnover       £85,000

Expenses (including salary) £20,000

Profit      £65,000

Corporation Tax (19%)       £12,350

Available for dividend £52,650

Under current dividend tax rules:

Portion of Dividend    Tax Rate Tax Amount

£37,700 8.75% £3,299

£14,950 33.75% £5,045

**Total Dividend Tax** **£8,344**

**Take-home**: £12,570 (salary) + £52,650 (dividend) – £8,344 = **£56,876**

If dividend tax is equalised with income tax:

Portion of Dividend    Tax Rate Tax Amount

£37,700 20% £7,540

£14,950 40% £5,980

**Total Dividend Tax** **£13,520**

**Take-home**: £12,570 + £52,650 – £13,520 = **£51,700**

Rayner is asking for a £5,000 dent in contractor take-home pay

So, if Rayner gets her way, and dividend tax is equalised with income tax, take-home pay for the Typical Ltd would reduce by £5,176. That equates to approx. £431 less in take-home pay -- each month.

Oh, and that’s before scrapping the £500 dividend allowance, which Rayner also wants Reeves to implement.

Add in this axing of the tax-free dividend allowance, and the contractor take-home dent deepens significantly. For higher earners or those with multiple sources of dividend income (e.g. from investments), the financial effect could be worse still.

Kicking contractors when they’re already down

From what I’m seeing in 2025-26, PSC contractors already feel under siege.

The 2021 private sector IR35 reforms (the Off-Payroll Working Rules) led many PSC contractors to lose contracts or be forced onto umbrella company payrolls, resulting in the loss of tax efficiencies and employment rights.

Wary contractors are now weary

The sentiment in the contractor community has turned from wary to weary.

First came the IR35 off-payroll chaos (originally in April 2017, with the public sector OPW framework); then PSCs suffered the NIC hikes, then frozen tax thresholds, and now, potentially, this dual dividends raid.

Even those contractors operating as genuinely self-employed and so only entertaining “outside IR35” contracts still often face blanket bans. At the same time, the tax efficiencies of incorporation appear to have been eroded year after year.

Many new and veteran contractors alike now ask:

What’s the point of being in business at all?

Once the Spending Review of June 11th 2025 is out of the way, the government should actively acknowledge that the British entrepreneurial spirit, characterised by individuals willing to take risks and innovate, is the backbone of the UK economy.

But I fear that there’ll be no such recognition.

The tone of Rayner’s memo may be technocratic, but it also feels extractive -- as if limited company workers are a soft target to fill fiscal holes.

The political mood music is clear: if you’re not salaried, you’re a potential target, even possibly a subject for HMRC scrutiny. The instruments were put in place at Spring Statement 2024 – Reeves’s second-ever fiscal statement. We must hope the chancellor has learnt more about enterprise in the months since. Certainly that learning won’t come from HMRC – a body made up solely of employees whose knowledge of enterprise risk and innovation is slim to none.

Is Rayner right? Is there a justification for a dual dividends raid?

Rayner argues, and many (employed) economists agree, that the tax system over-rewards incorporation.

But this view glosses over two key points:

1. Dividends come with risk. There are no sick days, no holiday pay, no redundancy packages. Contractors carry risk, and dividends attempt to compensate for that.

2. Corporation tax has already increased. Many PSCs now face an effective total tax burden (corporation tax + dividend tax) of over 50%, with none of the protections of employment.

Equalising dividend and income taxation without restoring rights is, frankly, a political and moral problem. For decades, the government promised it would never double-tax company profits, which it has been doing for several years now.

The end of the line for UK contracting?

Many limited company contractors already feel like they’re on the edge. For those who survived IR35 reform, and who still operate perfectly legitimately via PSCs, the sought dividend changes feel like they would be a last punishment for independent thought.

Far from tackling “loopholes”, as Rayner would likely have us believe she’s intending, a dual dividend raid could mark the next, even final stage in the slow dismantling of the freelance and British innovative economy.

There’s still time for Rachel Reeves to take a more nuanced view. If the chancellor genuinely wants growth and innovation, she should avoid alienating the very people who are central to delivering both.