It’s commonly understood that business owners are the underlying foundation of our economy. Furthermore, their assistance in the economies recovery and increase in employment over the last five years was profound. Of course, all of this effort to stabilise the economy was taken with many risks to both business and personal financial security.

This risk has been recognised and subsequently advantages have been presented to business owners in the way that they may receive remuneration from their business, whether it is salary, pension contributions or dividends, the latter proving to be the most tax efficient in recent years while the prosperity of pension contributions have dwindled.

Worryingly, last summer’s budget suggests that dividends may be going the same way as pension contributions as there was a 7.5 % increase in their effective tax.

The following table describes how the tax on dividends has, and will change.

Free tax allowance up to £5,000, thereafter these dividend taxes apply

Tax on Dividend Income    2015
%
2016
%
Tax and NIC on salaries 2015 onwards
Basic rate 0 7.5 (after allowance) 32
Higher rate 25 32.5 42
£100,000-£120,000 45 52.5 62
Over £150,000 30.6 38.1 47
In summary, the previously preferential tax on dividends compared with tax salaries has diminished and the dividend option is now undesirable for such business owners who are able to pay higher dividends to circumnavigate the higher taxation. Previously business owners would limit their income to just under £100,000 to avoid the jump in taxation which occurs in the £100,000 to £120,000 band.

Sadly, the budget of last summer failed to tackle this issue. It is possible that the removal of this tax band would incentivise business owners to exceed the £100,000 cap and thereby increase the overall tax take which is an example of Laffer curve’s effects.

For the smaller group of business owners  who have capped their income just below £150,000, to avoid slipping into the next tax band, it may be preferable to advance dividends over the next few weeks to avoid the marginal tax increase which is coming into force for the £120,000 to £150,000 bracket.

Such tax increases will no doubt ensure that business owners will strive for wealth preservation over wealth creation. By this method the government has decreased rewards for risk taking businesses, a move contrary to incentives during the nation’s economic recovery.

Business owners will likely feel that the £1.5 billion which is estimated for this new tax to levy, should have remained in the private sector to encourage risk taking entrepreneurs to cement the rejuvenated economy.

This all means that, for business owners, well informed tax planning is more important than ever.

If you are a business owner and are concerned about how these changes will affect you just call Johnson Legal on 44 (0)131 622 9222