How much will the dividend tax rise cost contractors
The government has announced several tax increases on contractors and employees as it looks to bridge the funding gap in health and social care.
From April 2022, National Insurance Contributions (NICs) for employees and employers will increase by 1.25% along with a matching increase in the tax paid on dividends.
From April 2023, the NICs rate will return to normal, but an extra 1.25% tax will be collected through a new Health and Social Care Levy.
Combined, the tax increases are expected to raise £36bn over the next three years. Prime Minister Boris Johnson said that the increases “will share the cost between business and individuals”.
How much will the NICs increase cost me?
NICs is paid by employers, employees and self-employed people in the UK.
Under the current plan, an employee earning £20,000 per year would pay an extra £130 in tax, while an employee on £50,000 per year would pay £505 extra.
However, limited company contractors can avoid employee and employer NICs if they pay themselves using a tax-efficient combination of salary and dividend payments. For most contractors, the most tax-efficient salary is £8,840 per year.
How much will the dividend tax increase cost me?
The dividend tax rise is expected to rise an extra £600m per year and applies to dividends from publicly listed and privately owned companies.
Because it’s more tax-efficient for limited company contractors to pay themselves using a combination of income and dividends, this tax rise will hit contractors harder than others.
Under the proposed increase, each dividend tax rate will increase by 1.25%. This means that after the £2.000 dividend allowance, the rates will increase as follows.
Basic rate will increase from 7.5% to 8.75%
Higher rate will increase from 32.5% to 33.75%
Additional rate will increase from 38.1% to 39.35%
If you are a contractor earning £20,000 through a combination of income and dividends.
You would pay a tax-efficient salary of £8,840
Your first £2,000 of dividends would be tax free
An additional £3,750 would fall within the £12,570 tax-free allowance
The basic dividend tax rate would apply to £5,410
At 7.5%, this would equate to £405.75, but at 8.75% this works out at £473.38 - an increase of £67.63
If you are a contractor earning a basic £8,840 salary and receiving dividends up to the higher rate tax band (currently £50,270), you will pay an extra £446.25 in dividend tax.
If you are in the higher rate taxpayers band (earning dividends between £50,270 and £150,000 per year), you will pay an extra £12.50 per additional £1,000 dividends earned above £50,270.
Additional rate payers will also pay an extra £12.50 on every £1,000 dividends earned over £150,000.
Want to learn how to pay yourself tax-efficiently? Speak to a member of our team today. Call: 0800 121 6513.