- The new 1.25% levy that has been announced starts as a National Insurance (NI) contribution increase from 6 April 2022 and switches into a new tax after April 2023. One way or another it’s a tax increase, but the way that it is imposed could make a difference to the costs for individual investors.
- For general investment account holders, taking dividends will become more expensive with 1.25% being added to dividend tax rates at all levels. For basic rate taxpayers that’s still below 10% (7.5% + 1.25%) and so dividends could still be an efficient way to draw income.
- Individual portfolio investors receive dividends from stock holdings and the only relevant tax rate is the one that the investor pays personally. For higher and additional rate taxpayers that’s about to increase from 32.5% and 38.1% to 33.75% and 39.35%, respectively.
- Looking at the wider picture, the dividends will have been paid by underlying companies out of their taxed income, so, if you look at the tax leakage between the company earning its pre-tax profit and the shareholder dividend, then the effective tax rate for an additional rate taxpayer becomes:
- Portfolio investors only have sight of the personal tax they pay on the dividend, but it becomes more relevant for shareholders of family companies where the company carries on, for example, a trading or investment business. Shareholders of such companies will see the tax at both the corporate and personal level, and so the calculation of a 50%+ tax rate becomes more meaningful.
- Anyone with a family investment company or their own trading business may wish to consider bringing dividends forward to the 2021/22 tax year. The company must have distributable reserves but the shareholders don’t necessarily need to draw the money out of the company. They do, however, need to ensure that the dividend is declared properly and the dividend due to them needs to be credited to their loan account in the company’s books in order to count as 2021/22 income.
- For anyone contemplating establishing a family company, it’s worth giving thought to the way that money is going to be extracted from the company. The pros and cons of family investment companies are beyond the scope of this bulletin, but be aware that, for example, property income routed to shareholders via a company will suffer the additional 1.25% levy, whereas there is only one layer of (personal) tax on the same rental income received personally and no NIC liability. Family companies always need to be considered in the light of the family’s circumstances, goals and objectives.
- For anyone still making pension contributions, it may be wiser for some to use the ‘salary sacrifice’ route. This means that the employee accepts a lower salary and the employer makes a compensating contribution to the employee’s pension pot. In this way the pension contribution is paid out of pre-tax and pre-NI income. We will only be able to see whether this avoids the new levy once the legislation to amend the existing rules is published.
- The state pension continues to be an important part of retirement planning, not least because it isn’t taken into account in lifetime allowance calculations. Also, with the current low interest rates, you would need a significant chunk of capital to generate the full state pension of £9,339 per year. We always advise those contemplating retirement to check out their NI records and, with an element of uncertainty about the introduction of the new levy, it would be sensible to make that check now and consider making up any shortfall in the current tax year before NI rates increase.
- Finally, in terms of retirement income, the government’s announcement makes it all the more crucial to use the tax breaks on offer – principally ISAs and pensions. Use of offshore bonds as a mechanism for tax deferral and cash flow generation will continue to be important.
Important information: