Dividend Tax Allowance: What Is It And How Does It Affect Your Investments?

The Dividend Allowance is the amount of dividend income you can usually receive each tax year before Dividend Tax applies.

The current allowance is £500.

That means, if your total dividend income is £500 or less during the tax year, you won’t pay any Dividend Tax on it.

However, if you receive more than £500, the extra amount may be taxable.

The Dividend Allowance used to be much higher. It was £5,000 per year in 2018!

But in an effort to raise more money, the government has made it far less generous in recent years, progressively cutting it down to its current level of £500 per year.

Even relatively modest investment portfolios can generate more than £500 of dividends each year.

The tax rate you pay on dividends depends on your Income Tax band.

These rates apply to dividend income above your £500 Dividend Allowance (and after any available Personal Allowance has been used).

For example…

Imagine you receive £1,500 in dividends during the tax year.

The first £500 falls within your Dividend Allowance. That leaves £1,000 that is taxable.

If you’re a higher-rate taxpayer, and the Dividend Tax rate is 35.75%, your tax bill would be:

• Taxable dividends: £1,000
• Dividend Tax: £357.50

The more dividend income you receive above the allowance, the larger the potential tax bill.

No. This is one of the biggest advantages of an ISA.

Dividends received inside an ISA are free from Dividend Tax, regardless of how much you receive.

That means the £500 Dividend Allowance only matters for investments held in a taxable account, such as a General Investment Account (GIA).

No. Just like an ISA, a pension is a tax-efficient place to hold investments.

Any dividends your investments pay while they’re held inside a pension aren’t subject to Dividend Tax, so the £500 Dividend Allowance doesn’t apply.

That’s one of the reasons pensions can be such an attractive way to invest for retirement. Your investments can continue generating dividend income without creating a Dividend Tax bill while the money remains inside the pension.

Fortunately, there are perfectly legal ways to lower – or even potentially eliminate – a Dividend Tax bill.

1. Make full use of your ISA

For many investors, this is the simplest solution.

• Once investments are inside an ISA:
• Dividends are free from Dividend Tax
• Capital gains are free from Capital Gains Tax
• You don’t need to report ISA dividends to HMRC

If you still have unused ISA allowance for the current tax year, moving investments into an ISA could reduce your future tax bill.

2. Consider a Bed and ISA
If you already own investments outside an ISA, you may be able to move them across using a process known as a Bed and ISA.

This involves:

• Selling your investments
• Moving the cash into an ISA
• Buying the investments back inside the ISA

If planned carefully, it’s sometimes possible to do this without paying Capital Gains Tax. See our Capital Gains Tax guide.

3. Use your spouse’s or civil partner’s ISA

Each adult has their own ISA allowance.

If your spouse or civil partner hasn’t used theirs, investing across both ISAs may allow more of your investments to grow free from Dividend Tax.

4. Consider growth investments instead

Not every investment pays dividends.

Some companies choose to reinvest their profits to help the business grow rather than paying shareholders.

These are often called growth investments.

If they don’t pay dividends, they won’t generate Dividend Tax while you continue to hold them.

However, if you later sell them for a profit outside an ISA, Capital Gains Tax may become relevant instead.

5. Keep track of your dividend income
Many people don’t realise they’ve gone over the £500 allowance until the end of the tax year.

Keeping a record of the dividends you receive can help you avoid unexpected tax bills.

Many investment platforms provide annual tax summaries that make this much easier.

Paying a little tax doesn’t automatically mean you’ve made a bad investment.

A high-quality investment that generates excellent long-term returns may still be worth holding, even if some Dividend Tax is due.

Tax is just one factor to consider. Investment performance, costs, diversification and your long-term goals are all very important too.

If you owe Dividend Tax, you may need to report it to HMRC.
Some people do this through a Self Assessment tax return.

Others may have the tax collected in a different way, depending on how much they owe and their circumstances.

If you’re unsure, it’s worth checking HMRC’s guidance or speaking to a tax adviser.