The dividend allowance halved this tax year, shrinking from £1,000 to £500 per year from 6 April 2024. If you receive dividends of more than £500 in a tax year, you now pay tax on that income …unless your total income falls below the normal tax free personal allowance (currently £12,570 per annum).
‘Cuts to the dividend allowance mean the number of people facing tax on their dividends is soaring. HMRC forecast just under 3.6 million people will pay tax on their dividends this tax year, almost double the number who paid three years ago,’ reports Laith Khalaf, Head of Investment Analysis at AJ Bell.
How to beat rising dividend taxes
Good news! Legal options exist which may enable you to beat the dividend tax trap:
1. Stocks & Shares ISAs
Dividends received from investments held in these accounts are free from income tax and don’t take up any of your £500 dividend allowance.
2. Pensions
Dividends in a pension can accumulate in the account without being subject to tax. Like in an ISA, they don’t use any of your £500 dividend allowance. This option is less flexible than the ISA route as you can’t access your money until at least age 55. (This minimum age is rising to 57 from 2028.)
3. Dividend allowance
Although the dividend allowance will be just £500 each year, this can be a useful way of keeping some share investments outside a tax shelter. Khalaf explains: ‘Usually the FTSE All Share yields somewhere in the region of 3.5%, so £500 of dividends from a UK tracker fund would equate to a holding of around £14,285 for an individual or £28,570 for a couple. Of course, that value and the dividends paid will fluctuate over time.’
4. Buddy up
Are you in a marriage or civil partnership? If your partner isn’t using their dividend allowance or is a lower tax band, transferring investments to them can reduce your overall tax bill as a couple. It’s important to note that transferring investments in this way is not subject to capital gains tax as no financial transaction is involved.
5. Venture Capital Trusts (VCTs)
Buying Venture Capital Trusts (VCTs) at issue also means any dividends you receive from the underlying investments are free from dividend tax. Investing in new companies can be risky, however, you must hold the VCT for at least five years to keep the 30% tax relief they attract.
6. Accumulation units
Many funds offer accumulation units, which automatically reinvest dividends paid by companies in the portfolio without paying them out of the fund. Check your end of year tax certificate so you don’t move above the dividend tax threshold when your dividends are reinvested.
7. Mixed asset funds
Similar care should be taken with mixed asset or multi-asset funds held outside of an ISA or SIPP (self-invested personal pension). These funds invest in a mixture of shares and bonds. If the fund invests less than 60% in bonds and cash, returns are classed as dividends
8. Favour growth funds and stocks
Moving from dividend payers to growth funds and stocks means growth is liable to capital gains tax which has a higher threshold of 3,000 each year. Currently, gains above this level are taxable at 10% for basic rate taxpayers and 20% for higher rate taxpayers, so this option should be carefully considered before switching.
‘There are many options to consider,’ explains Emily Bridges of re:accounts Chartered Accountant in Stevenage. ‘It’s important to state that minimising your tax bill is completely legal, whereas evading tax isn’t! The dividend allowance has significantly reduced in recent years impacting many investors and owner/directors of limited companies. I hope these tips will help some people to pay less tax’
To consider the options and find the best way for you to save tax, talk to the friendly experts at re:accounts. Our job is to demystify the rules and save you money – we’d love to help.
