New dividend rates – it could be beneficial to charge the company for use of assets

HMRC issued further details this week on the new tax regime for dividends which will come into force from 6 April 2016.

The new rules will significantly reduce the historical imbalance that has existed between the taxation of dividends and salary.  Under current rules, it is better to extract profits from a company by way of dividend.  Amounts received up to the basic rate band are effectively tax free (due to the dividend tax credit).  For higher and additional rate taxpayers dividends are approximately 10% cheaper than salary.

From 6 April 2016 the dividend tax credit is being replaced by a £5,000 tax-free dividend allowance, with rates on income above that as follows:

  • Basic rate taxpayer:                          7.5%
  • Higher rate taxpayer:                    32.5%
  • Additional rate taxpayer:            38.1%

With the hike in tax rates there is a clear incentive to accelerate dividend payments prior to the end of this tax year. But what about after that?

We think that it now makes sense to consider charging for personally owned assets that the directors own. This could include loans or the use of other assets (but there is a need to consider Entrepreneurs’ Relief implications for associated disposals).

For example: Bonnie and Clyde are higher rate taxpayers owning a company, Robin Banks Ltd, which is making annual profits of £100,000 per annum.  They currently have non-interest bearing loan accounts of £500,000 each resulting from the incorporation of the company a few years ago.

Under the new rules if they want to take the profits out as a dividend they will pay corporation tax at 20% and be taxed personally on the remainder at 32.5%.  Instead, they start charging 10% interest on their loan accounts (i.e. £50,000 each):

Non-interest bearing loan

Loan with 10% interest

Profits per accounts

   100,000

   100,000

Less interest payable on loan account:

(100,000)

Profits chargeable to tax

100,000

                  –

Corporation tax (20%)

   (20,000)

                  –

Profits available for distribution

     80,000

                  –

Tax thereon (32.5%)

   (26,000)

                  –

Interest received

   100,000

Tax thereon (40%)

   (40,000)

Net receipt

   54,000  

   60,000  

 

Similar savings would result for an additional rate taxpayer.

 

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