If you own a business or you’re a shareholder, you really need a dividend strategy. That’s because without one, you could end up paying more tax than you need to!
Company directors can be paid a salary or a dividend – or a mix of salary and dividends if they’re also a shareholder. Many people might assume that most are paid in dividends as they can be paid tax free. But that’s not the case! Reduced allowances mean it is no longer attractive to be paid entirely by dividends.
Latest government figures show that of the 90% of owner-managers paid through their company, 63% used dividends and 80% were paid salaries.
It can be confusing understanding the best way to be paid. Shareholders need a dividend strategy to help save tax. So, let’s see what it means in a straightforward way.
What is a dividend?
A dividend is simply a payment made from your company’s profits to its shareholders. In most small, limited companies, that’s usually the director. That means you’re effectively paying yourself from the profits your business has generated. The key point is that dividends can only be paid after your company has made a profit and paid Corporation Tax on it.
What is a dividend strategy?
A dividend strategy is the approach you take to combine a small salary with dividend payments in a way that keeps your overall tax bill as low as possible. Rather than taking all your income as salary, which is subject to Income Tax and National Insurance, you split your income between the two.
But why would you split your income? It is because salary and dividends are taxed differently. Salary is treated as an expense for the company, but it triggers Income Tax and both employee and employer National Insurance. Dividends, on the other hand, don’t attract National Insurance at all. And they’re taxed at different (and often lower) rates.
In practice, many directors choose to pay themselves a modest salary – often set at a level that keeps National Insurance low or minimal – while still qualifying for certain state benefits. They then take the rest of their income as dividends, as and when the company has sufficient profits.
How dividends can be more tax efficient
This is where the tax efficiency comes in. By reducing the amount taken as salary, you reduce National Insurance contributions (NICs). By taking dividends instead, you benefit from lower tax rates and the dividend allowance, which allows a portion of dividend income to be received tax-free or at a lower rate, depending on current thresholds.
To put it simply, if you took all your income as salary, a larger portion would be lost to tax and National Insurance. By using a mix of salary and dividends, you’re structuring your income in a way that’s more efficient under current tax rules.
Rules for taking dividends
But it isn’t as simple as simply paying yourself dividends whenever you feel like it. There are important rules to follow. Dividends must come from retained profits. That means you need to keep proper records, including dividend vouchers and board minutes. Getting this wrong can cause issues with HMRC, so it’s important to treat dividends properly rather than as informal withdrawals.
One size doesn’t fit all!
It’s also worth noting that a dividend strategy isn’t one-size-fits-all. The most tax-efficient mix will depend on your company’s profits, your total personal income, and even your plans for the future. For example, if you’re applying for a mortgage, lenders often look more favourably on salary, so you might adjust your approach accordingly.
Ultimately, a dividend strategy isn’t about avoiding tax, it’s about being smart with how you take your income. When done properly, it allows limited company directors to reduce unnecessary tax, improve cash flow and make the most of what their business earns.
Dividend tax rates 2026/27
From 6 April the dividend tax rates have increased to 10.75% for basic rates, 35.75 for higher rate and 39.35% for the additional rate.
- Dividend Allowance: £500 (tax-free)
- Basic Rate (within basic rate band): 10.75%
- Higher Rate (within higher rate band): 35.75%
- Additional Rate (over £125,140): 39.35%
What should I do about it?
If you’re not sure whether your current approach is as efficient as it could be, it’s worth reviewing it. A few small tweaks can often make a noticeable difference over the course of a year.
If you want to know about your dividend strategy, then contact our team today for a chat.
