Dividend Tax Explained for Company Directors
In 2016, the tax-free dividend allowance was £5,000. Today it is £500. That is a drop of 90% in under ten years, and most directors I meet have never noticed.
They notice the effect, of course. They see it in the tax bill each January. They just don't connect it to a rule that changed quietly in the background. And from April 2026, the rates themselves went up too. The basic rate on dividends is now 10.75% and the higher rate is 35.75%, each two percentage points higher than the year before.
Dividends are still the most popular way for the owner of a small limited company to take profit. They avoid National Insurance, they are flexible, and for many directors they remain the cheapest route. But they are not tax-free, and the rules are more layered than they look.
I work with directors across Tunbridge Wells, Tonbridge, Sevenoaks and the wider Kent area, and I find that most dividend mistakes come from a single gap: a director who understands how to pay a dividend but not how it is taxed. This guide closes that gap. It explains what a dividend is, how dividend tax works, how the allowance fits in, and how to plan your payments through the year. I have used the 2026–27 figures and included worked examples so you can compare them with your own.
A dividend is a payment from a company to its shareholders, made out of profits that the company has already earned and already paid Corporation Tax on. It is the owner's share of what is left.
That description sounds simple, but three features make it different from other ways of getting money out of a company.
A salary rewards you for the work you do. A dividend rewards you for owning shares. The two are legally and tax-wise distinct, which is why most directors take a small salary and the rest as dividends. If you are the only shareholder, you receive the whole dividend. If there are several shareholders, each receives an amount in proportion to the shares they hold.
When the company pays a salary, the payment reduces its taxable profit, and so reduces its Corporation Tax. A dividend does not. The company pays Corporation Tax on its profit first, and what remains is what it can pay out. That is the reason we talk about dividends as being taxed twice: once in the company and once in your hands. Our guide to how Corporation Tax and dividends work together follows this chain in detail.
A company can only pay a dividend if it has enough distributable profits. In plain terms, that means accumulated profits after tax, less any losses and earlier distributions. Cash in the bank is not the test. A company can have a healthy balance and no distributable profit, or the other way round.
If a company pays a dividend when it has no distributable profits, the dividend is unlawful. In the worst cases, the shareholder can be required to repay it. Always check the reserves before you declare.
Every dividend should be supported by a board minute that records the decision, and a dividend voucher that states the date, the amount, the company and the shareholder. If you are the sole director and the only shareholder, you still do both. The paperwork is your evidence that a payment was a dividend and not a loan or disguised pay. It is also the evidence you will need when you complete your tax return.
An interim dividend is declared by the directors during the year, and it is treated as paid on the date it is made. A final dividend is recommended by the directors after the year-end and approved by shareholders. For a small company run by its owner, the practical difference is mostly one of timing and paperwork, but the date on the paperwork matters because it decides which tax year the dividend falls into.
A couple of years ago, a Tonbridge director showed me a bank statement with fourteen payments to his personal account over the year, all described as "dividend". There were no minutes, no vouchers, and no consistent dates. The amounts were also well above the company's reserves. We had to go back through the accounts, work out what was genuinely distributable, treat the excess as a director's loan, and reconstruct the paperwork. It was a lot of work for what should have been a simple process. It is much easier to do it properly at the time.
Now we come to the part that confuses nearly everyone. The tax on a dividend isn't a flat rate. It depends on the rest of your income, and the way HMRC stacks that income.
HMRC adds up your income in a fixed order. Salary and other non-dividend income come first. Dividends sit on top. This matters because the tax band that a dividend falls into depends on how much income is underneath it.
For 2026–27, the main thresholds are as follows. You pay no tax on the first £12,570 of income, which is your Personal Allowance. The basic rate band then covers the next £37,700. The higher rate band runs from there up to £125,140 of taxable income. Above that is the additional rate band.
Dividends have their own rates, which are lower than the rates on other income. For 2026–27 they are:
The basic rate is 10.75%. The higher rate is 35.75%. The additional rate is 39.35%. The first £500 of dividends in the year is taxed at 0%.
These rates apply to the slice of dividend income that falls into each band. You can easily pay different rates on different parts of the same dividend.
One reason dividends are popular is that no National Insurance is charged on them, either for you or for the company. Salary attracts employee's and employer's National Insurance. Dividends do not. That is a real saving, but it comes at the price of the extra layer of Corporation Tax and the loss of the company's tax deduction.
Let's look at a director who takes a salary of £12,570 from the company, which uses the whole Personal Allowance. We will see what happens at different dividend levels.
On a dividend of £20,000, the first £500 is covered by the allowance. The remaining £19,500 falls in the basic rate band and is taxed at 10.75%. The tax is £2,096.25, which is about 10.5% of the dividend.
On a dividend of £50,000, the first £500 is tax-free, the next £37,200 is taxed at 10.75% (£3,999), and the remaining £12,300 is taxed at 35.75% (£4,397.25). The tax is £8,396.25, about 16.8% of the dividend.
On a dividend of £100,000, the director's income is £112,570, which takes them into the territory where the Personal Allowance starts to disappear. The tax is £29,099.50, about 29.1% of the dividend. If you are heading that way, please read our guide to the £100,000 tax trap, because the effective rate on the extra income is much higher than the headline rate suggests.
The pattern is clear. The more you take, the higher the average rate climbs, because more of the dividend falls into the higher bands.
Let me show you the full picture, from company profit to money in your pocket. Say a company has a taxable profit of £60,000. Corporation Tax on that is £12,150, which leaves £47,850. If the director takes all of that as a dividend, on top of a £12,570 salary, the personal dividend tax is £7,627.62. The company and the director have together paid £19,777.62, or about 33% of the original profit. The director receives £40,222.38.
That 33% isn't a trick or a loophole closing. It is simply what happens when two taxes apply in sequence. Knowing it in advance helps you to plan, and to avoid the temptation of looking only at the second layer.
The dividend rates for basic and higher rate taxpayers each rose by two percentage points from 6 April 2026, from 8.75% to 10.75% and from 33.75% to 35.75%. The additional rate stayed at 39.35%. On a £50,000 dividend, that adds about £990 to the bill compared with last year's rates. It is a gentle reminder that dividend planning needs to be refreshed each tax year, not set once and forgotten.
The tax on a dividend isn't deducted when you receive it. You declare it on your Self Assessment tax return and pay it by 31 January after the end of the tax year. Our guide to whether company directors need to complete a Self Assessment tax return explains the process, including the payments on account that surprise many directors in their first year.
The dividend allowance is the amount of dividend income you can receive each year at a 0% rate. It sounds generous. It is not.
For 2026–27, the allowance is £500. It has been cut several times in recent years. It was £5,000 in 2016–17, £2,000 from 2018–19, £1,000 from 2023–24 and £500 from 2024–25. At today's rates, the allowance saves a basic rate taxpayer about £53.75 a year, a higher rate taxpayer about £178.75, and an additional rate taxpayer about £196.75. It is helpful, but it is no longer a planning tool in its own right.
The allowance is a zero-rate band. It is not an exemption from reporting. The dividends it covers still count as part of your total income, and they still need to appear on your tax return. They also still take up space in your tax bands, which means they can push other income into a higher band. A £500 dividend that is taxed at 0% can still use £500 of your basic rate band.
For the same reason, the allowance doesn't reduce your adjusted net income. If you are close to the £100,000 mark, the dividends it covers still count towards that figure.
Everyone has their own £500 allowance. If your spouse or civil partner is a genuine shareholder in the company, they have their own allowance, their own Personal Allowance and their own tax bands. That can make a big difference to the total family tax bill, but it needs to be done properly, which I discuss in the planning section.
If you don't take a salary, your Personal Allowance can be used against your dividends instead. A director who takes no salary and £62,770 of dividends would use the £12,570 allowance and pay £8,467.75 in tax. But dropping the salary can also cost you a qualifying year for your State Pension, and it removes a tax-deductible cost from the company, so it is rarely the better choice. Our guide to salary versus dividends works through the trade-offs.
Dividends from shares held in an ISA are tax-free and don't count towards the allowance. If you hold investments personally, using your ISA allowance can be a useful way to keep the allowance for your company dividends.
Planning is where the real value lies. The same total dividend can produce very different tax bills, depending on when and how it is paid.
Before you declare anything, check the company's distributable reserves. Then check its cash. Then check what it owes in Corporation Tax, VAT and wages in the coming months. The right dividend is the one that satisfies all three tests. Many directors only check the bank balance, and that is how overpayments happen.
Some directors prefer to pay themselves a regular monthly dividend to mimic a salary. This is convenient for budgeting, but each payment needs its own paperwork and, if profits fall, the later payments may exceed what is lawful. Others prefer quarterly dividends, or one or two larger payments timed to the company's results. I find that quarterly works well for many of my clients, because it gives a rhythm without the burden of monthly paperwork, and allows the amounts to be adjusted as the year unfolds.
Dividends are taxed in the tax year in which they are paid, which runs from 6 April to 5 April. A dividend paid on 4 April falls into one year, and the same dividend paid on 7 April falls into the next. If you are near a threshold, such as the top of the basic rate band or £100,000, a small change in timing can move a dividend into a lower-tax year. Plan this in the winter, not in April.
For most directors, the basic rate band is the cheapest place to take dividends. At 10.75%, it is far lower than the 35.75% in the higher rate band. If you can arrange your income so that more of it falls in the basic rate band, either in one year or spread across several, the saving can be considerable. Retaining profit in the company in a high-income year, and taking it in a lower-income year, is one way to do this.
If your spouse or civil partner is a genuine shareholder, dividends paid to them are taxed on their own income. Take a Sevenoaks company that pays £100,000 of dividends in a year, and a director who also draws a salary of £12,570. If the director took all of it, the tax would be £29,099.50. If a spouse with no other income owned half of the shares, the director would receive £50,000 and pay £8,396.25, while the spouse would receive £50,000 and pay only about £3,970, because their own Personal Allowance covers the first £12,570. Between them, the household would pay about £12,366.
That is a big difference, which is exactly why HMRC takes an interest. The shares must be genuinely owned, the dividends genuinely paid to your spouse and under their control, and the arrangement must not be a device to avoid tax on income from your own work. HMRC has specific rules about this, known as the settlements legislation. Please take advice before changing who owns the shares in your company.
An employer pension contribution can replace part of a dividend. The company gets a Corporation Tax deduction, there is no National Insurance, and you avoid the dividend tax altogether on that portion. For a director whose dividends fall into the higher rate band, or into the £100,000 trap, it is often the most efficient move. Our guide to whether your limited company can pay into your pension covers the mechanics.
Because the tax isn't deducted, you must save for it. I advise most clients to move around a third of every dividend into a separate account as soon as it is paid. Adjust it once we have worked out your real rate. That one habit prevents the January shortfall, and it takes about a minute.
Each dividend should have a minute and a voucher, dated on the day. Keep them with your accounting records. If HMRC ever asks, you want to be able to show what was paid, when, and from what profits.
Rates change, allowances change, and your own income changes. A plan that was perfect in 2024 may not be right in 2026. A short review with your accountant each autumn costs little and can save a great deal.
Quick answer: A dividend is a payment of after-tax profit from a company to its shareholders. For 2026–27, the first £500 each year is tax-free. After that, dividends are taxed at 10.75% in the basic rate band, 35.75% in the higher rate band and 39.35% in the additional rate band, with no National Insurance. The tax is reported on your Self Assessment return and paid by 31 January.
What this means for a company director: Your dividends are taxed on top of your other income, so the more you take, the higher the average rate climbs. The company pays Corporation Tax first, and you pay dividend tax second. You must also keep the paperwork, pay only from distributable profits, and save for the tax yourself, because nobody deducts it for you.
Example: A director with a £12,570 salary takes a £50,000 dividend. The first £500 is tax-free, £37,200 is taxed at 10.75% (£3,999) and £12,300 at 35.75% (£4,397.25). The dividend tax is £8,396.25. If the company's profit was £60,000 and the director took the whole £47,850 left after Corporation Tax, the two taxes together would cost about 33% of the profit.
Common mistakes: Paying a dividend without enough distributable profit. Skipping the minutes and vouchers. Forgetting that the tax isn't deducted. Looking only at the headline rate. Ignoring the 5 April boundary. Assuming the £500 allowance removes the need to report.
When should you speak to an accountant? Before you declare your first dividend, and then at least once a year, ideally in the autumn. Speak to us sooner if your income is approaching £50,270 or £100,000, if you want to include a spouse as a shareholder, or if you are not sure the company has enough distributable profits.
This is the most common legal error. A healthy bank balance doesn't mean distributable profit. If the company has past losses, they reduce what you can pay.
At £500, the allowance is worth less than £180 even to a higher rate taxpayer. Plan around the bands, not the allowance.
Dividends arrive in full. The tax follows many months later. A director who spends everything finds the January bill hard to meet. Save a third as you go.
Irregular transfers described as dividends, without minutes or vouchers, are a magnet for questions. They can also be treated as director's loans, with their own tax consequences.
The company year and the tax year are different. Dividends belong to the year in which they are paid, not the year in which the profit was earned.
Putting shares in a spouse's name without real ownership and rights can unravel under the settlements rules, leaving you with a bigger bill and penalties.
Dividends that take your income above £100,000 start to remove your Personal Allowance, with an effective rate of around 58% on the extra. Check before you declare a large dividend late in the year.
The Autumn Budget is due on 28 October 2026. What I have written is correct for October 2026, so check again before acting on a large decision.
If you would like help working out how much to pay yourself in dividends, when to pay it, and how much tax to put aside, we'd love to hear from you. At Peter Hodgson & Co, we work with sole traders, contractors and company directors across Tunbridge Wells, Tonbridge, Sevenoaks and the rest of Kent and the South East. We can check your reserves, prepare the minutes and vouchers, and plan your dividends with your salary and pension so that you keep as much as the rules allow.
To arrange a conversation, you can complete the "Contact Us" form on our website, call us on 01892 515 733, or send us an email at info@peterhodgson.co.uk. A short chat now could make next January a lot calmer!
Disclaimer:
The content of this blog is for general informational purposes only and should not be considered professional tax advice. The information is correct at the time of publishing but may change following future UK budget announcements or updates to HMRC guidance. Individual circumstances vary, and tax obligations can differ based on your personal situation. We strongly recommend consulting with us or a qualified tax professional to receive advice tailored to your specific needs.
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