Legal and Director Duties

Legal Requirements

A Limited Company is owned by its shareholders. Dividends are a proportion of post-tax profits and may be paid to shareholders of a Company. When a Company intends to pay out a dividend it holds directors’ and shareholders’ meetings to declare such dividends. It is necessary for the meetings to be documented and to conform to the law.

Directors can pay dividends if it appears to them that they are justified by the profits of the company available for distribution. This can only be done by reference to the accounts of the company. (This requirement is met when you receive a breakdown of your company’s profit position as part of the service). A company may only make distributions out of its profits available for distribution. The technical definition is its accumulated, realised profits so far as not previously distributed or capitalised, less its accumulated, realised losses so far as not previously written off in a reduction or reorganisation of capital.

Many companies declare dividends once or twice a year. However there is nothing in principle preventing a company from declaring dividends as often as it likes provided there are available profits out of which to declare the dividends.

Dividends are not an allowable deduction in calculating corporation tax profits and therefore the corporation tax liability will be the same regardless of whether dividends are paid out or funds are retained in the Company.

It is important that correct procedures are followed with regard to the payment of dividends to protect against HM Revenue & Customs (HMRC) deeming a dividend paid as being disguised salary.

Director’s Duty

In addition to satisfying the statutory tests, when considering whether a dividend can be paid, the directors of a company must have regard to the company’s best interest generally (e.g. by having due regard to the future cash requirements of the business and to the present and future solvency of the company).

How Are Dividends Taxed?

In the tax year, 6 April 2020 to 5 April 2021, the tax you pay on dividends will depend on what tax band you’re in:

Tax band Tax rate on dividends over £5,000
Basic rate 7.5%
Higher rate 32.5%
Additional rate 38.1%

How Much Dividend Should I Pay Myself?

Extracting dividends and mitigating personal tax.

If you decide to pay the maximum amount of dividend based on company profits, you can extract all realised profits after tax as a dividend, provided you have enough cash in the company bank account and have followed the appropriate steps.

You may, however, opt to leave some retained profits in the company to allow for the future business needs of the company or if circumstances change or to mitigate personal tax.

The fact that you can decide when to pay dividends to the shareholder(s) gives you flexibility in tax planning.

If you keep your personal total gross income, including dividends, below the Upper Earnings Level (£50,000) for the tax year, you can limit any personal liability to tax on dividends to 7.5%. The surplus of any profits can always be retained in the company and extracted in a future tax year.

Bear in mind that the actual amount of dividend you can pay yourself will depend on all income that you earn (including from salary, dividends, interest, rental income etc.) throughout the tax year.

If you tell us about any previous income you earned in this tax year (e.g. from previous employment), along with any potential income you expect to earn outside of your company (e.g. rental income, interest etc. from other sources), we will be able to calculate an estimate and help you monitor your potential personal tax liability throughout the tax year to ensure that you do not exceed this Upper Earnings Limit. If you do exceed the limit, our estimate will provide you with an indication of the amount to set aside in your personal capacity to cover any potential personal tax assessed and payable (through Self-Assessment) on your personal income, including dividends.