Dividends v Pension Contributions Revisited
Published / Last Updated on 14/05/2021
Many business owner/directors have decisions towards year end when businesses are in profit as to whether they pay corporation taxes and retain that profit in the business for net dividend distribution or they can, if they choose to make an employer pension contribution instead into their own pension scheme.
As a dividend, you will also pay additional income taxes after deduction of the £2,000 pa tax free dividend allowance.
In most cases, it is usually more beneficial to have it paid as a pension contribution as it is fully offsetable as a business expense against corporation tax and then you can drawdown funds from pensions when ready to control your taxes as well as in the event of premature death, the pension fund may be paid tax free to loved ones.
Our view is that it will always be a balancing act between accessible capital in the form of dividends and building up pension contributions as efficiently as possible without paying corporation tax.
e.g, £30,000 PROFIT - Dividend v Pension. We think pension is usually better than dividend now across all scenarios
|
£30000 Paid to You |
Dividend – paid out to you as net dividend |
Pension - £30000 Paid into Pension |
|
Corporation Tax Payable 20% |
£6,000 |
NIL |
|
Net Payment to you |
£24,000 |
£30,000 |
|
Employers National Insurance |
NIL |
NIL |
|
Employees National Insurance |
NIL |
NIL |
|
Money Now in Your Name Basic Rate Taxpayer (20%) |
£24,000 Dividend less £2,000 Tax Free Dividend Allowance £22,000 taxed at 7.5% = £1,650 Tax
In Your Pocket £24,000 less £1,650 Tax = £22,350 |
£30,000 in pension fund But if then use flexible drawdown £30,000 X 25% Tax Free Cash = £7,500 £22,500 X 20% Income Tax = £4,500 Tax. Net Left = £18,000
In Your Pocket £7,500 + £18,000 = £25,500 |
|
Money Now in Your Name Higher Rate Taxpayer (40%) |
£24,000 Dividend less £2,000 Tax Free Dividend Allowance £22,000 taxed at 32.5% = £7,150 Tax
In Your Pocket £24,000 less £7,150 Tax = £16,850 |
£30,000 in pension fund But if then use flexible drawdown £30,000 X 25% Tax Free Cash = £7,500 £22,500 X 40% Income Tax = £9,000 Tax. Net Left = £13,500 In Your Pocket £7,500 + £13,500 = £21,000 |
|
Money Now in Your Name Higher Rate Taxpayer (45%) |
£24,000 Dividend less £2,000 Tax Free Dividend Allowance £22,000 taxed at 38.1% = £8,382 Tax
In Your Pocket £24,000 less £8,382 Tax = £15,618 |
*£30,000 in pension fund But if then use flexible drawdown £30,000 X 25% Tax Free Cash = £7,500 £22,500 X 45% Income Tax = £10,125 Tax. Net Left = £12,375 In Your Pocket £7,500 + £12,375 = £19,875 |
|
|
|
*May pay additional tax if Tapered Annual Allowance applies to Pension Contribution |
|
Tax on Death E.g. Basic Rate Tax Payer |
Inheritance Tax 40% = £22,350 X 40% = £8,940
Net Paid to Loved Ones £13,410 (more than half of starting £30,000 gone in tax) |
Untouched Pension Fund = £30,000 paid to loved ones
or Drawdown Pension Balance Death before Age 75 = NIL TAX Death After Age 75 = Loved ones pay tax when drawing pension fund at their rate of income tax Could be 100% of £30,000 never gets taxed |
|
Tax on Death E.g. Higher Rate Tax Payer |
Inheritance Tax 40% = £16,850 X 40% = £6,740
Net Paid to Loved Ones £10,110 (nearly 2/3rds of starting £30,000 gone in tax) |
Untouched Pension Fund = £30,000 paid to loved ones
or Drawdown Pension Balance Death before Age 75 = NIL TAX Death After Age 75 = Loved ones pay tax when drawing pension fund at their rate of income tax Could be 100% of £30,000 never gets taxed |
|
Tax on Death E.g. Additional Rate Tax Payer |
Inheritance Tax 40% = £15,618 X 40% = £6,247
Net Paid to Loved Ones £9,370 (more than 2/3rds of starting £30,000 gone in tax) |
Untouched Pension Fund = £30,000 paid to loved ones
or Drawdown Pension Balance Death before Age 75 = NIL TAX Death After Age 75 = Loved ones pay tax when drawing pension fund at their rate of income tax Could be 100% of £30,000 never gets taxed |
The above assumes corporation tax and dividend income rates and allowances as above but are subject to change.
