So, tell me about dividend taxation

From the IFS report:

Partnership and dividend income are taxed at lower rates than normal salaries – a policy choice to tax the incomes of business owners at lower rates than employees, which therefore benefits a significant share of the top 1%.

If you add corporation tax and income tax and NI together, are dividends actually taxed less than labour incomes? There’s been so much change in rates and stuff that I no longer know….

Anyone want to do a calculation (perhaps with and without NI?) on a £1 million income taxed as partnership income, labour income and dividends?

Oh, OK, never mind. They do the calculation in the report.

13 thoughts on “So, tell me about dividend taxation”

  1. Worth noting the 1pct are predominately aged 45 to 54, rather than the so-called Boomers, who they took over from – and that the growth in wealth derived from equities with overseas earnings (which I concede includes many people’s pension investments) now exceeds that of property wealth.

  2. Hmmmmm

    So let’s assume that a company makes £1,136,808 profit (before the boss gets his bonus of £1m)

    £1,000,000 salary would incur £136,808 Er’s NIC.
    income tax 435,000 + Ee’s NIC of £23,966

    Take home £541,033
    Taxman gets £595,774

    If the company paid a dividend instead, first corporation tax is paid on the £1,136,808. That would be £215,993 leaving £920,815 dividend. Income tax on that is £332,905

    Take home £587,909
    Taxman gets £548,899

    If the chap was self-employed and profits were £1,136,808

    income tax £490,934
    NIC £26,700

    Take home £619,173
    Taxman gets £517,634

  3. For the benefit of your readers who can’t be bothered wading through the report:

    Figure 11 shows that, for a job generating £200,000 per year, the tax paid for the partner or owner-manager would be around £13,000 lower than for an equivalent employee.
    Figure 11 does not capture all differences in tax treatment across legal forms. For example, partners will generally have more scope to deduct work-related expenses from their income than employees. But employees and owner-managers have access to a more generous treatment of pension saving – pension contributions made by an employer are not subject to NICs.13 One important tax benefit for owner-managers, not captured in Figure 11, which is particularly important at higher incomes, is the capacity for the owners to retain profits in their company.

    There is a tax advantage to taking dividends, but it’s not nearly as high as it once was. Even the allowed expenses aren’t as generous as they once were – company cars are rarely offered these days. The only workaround is to do a Philip Green and gift the shares to your Monaco-resident wife.

  4. Partnership income at lower rates? Surely partnerships are just a way of allocating costs and revenues and hence profits and income. How is that taxed differently than for a sole trader…?

  5. @Nautical Nick

    A partner in a partnership is taxed in exactly the same way as a sole trader. In fact for taxation purposes, a partnership is just a lot of separate sole traders.

  6. Don’t forget that the employee gets 28 days of paid holiday per year, plus potentially another 8-10 bank holidays (depending on where you are in the UK and whether your employer gives them separate to statutory holidays). I’d say all employees get at least 6 weeks per year of paid holiday via the two methods, many get 7 weeks.

    So an employee taking home £541k (as per Andrew Cs example) will only be working 46 weeks per year to get it, or £11760 per week.

    Whereas our company director gets no paid leave at all. He has to work every week of the year, or face losing business. So his take home pay of £588k works out at £11, 307 per week.

    Only our sole trader manages to best the employee, by £150/week, on £11,903 per week for a 52 week year. If the employee gets 7 weeks holiday he’s still out top, with over £12k/per week worked.

    And thats just holiday pay, without considering sick pay and all the other employment rights that employees have.

    If employees worked as long as the self employed do, perhaps they too could earn as much money.

  7. If working for a service company were guaranteed to be more lucrative than conventional employment then nobody would leave the former for the latter. But people do.

    They also move the other way, suggesting that what works out to be most attractive depends on personal circumstances.

    Judging by tales of the Beeb, the parties that most reliably do well out of service companies are those that engage the companies rather than hire conventional employees.

  8. With the company, you also need to factor in the fact that profits are only taxed at dividend rates at the point at which they are taken out of the company. Depending on circumstances, the timing of this can be used to good advantage, particularly when rolling up capital gains in the shares and using Entrepreneurs’ Relief.

    In addition to the working hours points mentioned above, the different tax bases need to account for the risk of putting your capital in a business (or leaving it there for future capital gains!).

  9. @samuelbuca
    “the timing of this can be used to good advantage, particularly when rolling up capital gains in the shares and using Entrepreneurs’ Relief.”

    Although this is somewhat off-set by the limit for an informal liquidation of £26k so if there is more cash than this you would need to carry out a formal liquidation.

    An alternative is to consider the company as a pension pot and take out dividends when your total income needs are likely to be lower.

  10. “An alternative is to consider the company as a pension pot and take out dividends when your total income needs are likely to be lower.”

    And there is no punitive limit on that like there is with pensions.

    As for the first point, I was thinking more about ultimately selling the company rather than liquidating. However, the overriding point here is that different business situations are rightly taxed differently because they are different!

    Of course, if the Spud were here, he would insist on the rate of tax on dividends being the same as income tax, and National Insurance on those divis too…

  11. Government: We want to encourage people to invest their money in small businesses, so we’ll tax dividends from businesses lower than salaries.
    Opponents: But that means they’ll pay less taxes!!!!

  12. I run my own one-man company, not to save tax, but (a) because it makes me look more professional and (b) if I make some massive cock-up, I might lose the company, but not my home.

    There are extra costs to having a company, mostly in time lost to pointless bureaucratic form-filling (or paying an accountant to do it for you). And I can save a bit of tax because my wife owns 49% and is on a lower tax rate.

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