Higher rate tax on dividend income will cost you 25% of your income; reducing a £9,000 dividend income receipt to £6,750. Dividend income for additional rate taxpayers, those with taxable income over £150,000, will be taxed down to £6,250. Here are 4 simple ways you can reduce, or even avoid having to pay, the higher rate tax on dividend income.
- Use ISA to shelter your investments from tax. Investments in ISA are not subject to any further income tax or capital gains tax. You can move existing investments into ISA up to the value of your ISA allowance (£11,520 for tax year 2013/14). This process is known as Bed & ISA.
- If your spouse pays a lower rate of tax than you, transferring investments or assets into their name will also transfer future income into their name, potentially saving higher rates of tax on the income. One common error here is couples holding investments jointly, not realising that half of the investment income is taxed on each. Moving investments into your spouse’s name is known as Bed & Spouse.
- Dividend income tax rates are potentially higher than capital gains tax rates – a maximum of 37.5% compared to 28%. It therefore makes sense to hold higher yielding shares and funds in ISA and growth investments out of ISA to save income tax.
- A pension contribution enjoys tax relief at the highest rate of income tax you pay. It works by increasing your basic rate tax band by the amount of the pension contribution. This means that you can avoid paying high rate tax on dividends by paying money into your pension. For example, every £8,000 paid into a pension will save £2,250 higher rate income tax, on £10,000 of gross dividend income.
For more detail on the tax benefits a SIPP could give you, visit the Hargreaves Lansdown website.
Please note this is based on our understanding of tax rules which will change and the value and benefit of tax relief depend upon your circumstances. If you unsure of your options, you should seek independent financial advice. The value of investments will fall as well as rise.
