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Dividend tax explained

If you own shares in a company, you may be eligible to receive dividends, and as with most types of income, that means you’ll have to pay tax. The good news? Dividend tax is less than income tax. So what exactly is dividend tax, how does it work and what are the dividend tax bands?

What is dividend tax?

Dividends are the money you get from company profits if you’re a company shareholder, and dividend tax is simply the tax you’ll have to pay on these dividends. 

Dividend tax rates are different from (and lower than) income tax rates, and you’ll also get a tax-free dividend allowance.

What is the dividend allowance?

Your dividend tax allowance is the amount you can earn tax-free from dividends. The dividend allowance in the UK for the 2020/21 tax year (6th April 2020 to 5th April 2021) is £2,000. This allowance is in addition to your personal allowance of £12,500. That means you can earn a total of £14,500 in tax-free allowances; £12,500 from your personal allowance and £2,000 from your dividend allowance.

After this, you’ll pay dividend tax, which falls into three different tax rates just like income tax.

What are the tax rates on dividends?

The amount you pay in tax on your dividends* depends on your tax band, which is determined by your personal income. You’ll fall into one of three different tax band rates; basic-rate, higher-rate and additional-rate, depending on how much you earn.

How much tax do I pay on dividends in 2020/21?

Once you earn more than your personal allowance and your dividend allowance, you’ll be taxed on your dividends according to the following tax bands:

Income tax band Amount earned per year* Dividend tax rate
Basic rate £14,500 to £50,000 7.5%
Higher rate £50,001 to £150,000 32.5%
Additional rate £150,001+ 38.1%

* The first £2,000 of dividend earnings is tax-free.

How do I work out my dividend tax?

Let’s say you earn £60,000 a year. You’d work out your dividend tax in the following way:

  • £12,500 of your earnings are tax-free, as that’s your personal allowance
  • Another £2,000 is tax-free, which is your dividend allowance

That leaves £45,500 of taxable dividends.

  • £35,500 of that is taxed at 7.5%, as it takes you up to £50,000 of your income
  • The remaining £10,000 is taxed at 32.5%   

As with income tax, you’ll pay tax in more than one dividend tax band.

If you earn a wage as well as dividends, your calculation will look slightly different. For example, if you earn £58,000 in wages and £2,000 in dividends, you won’t pay any tax on your dividends, but you will pay income tax on your wages. If you earn £57,000 in wages and £3,000 in dividends, you’ll be taxed on £1,000 of those dividends, and you’ll have to pay income tax on your wages.

Dividend tax just applies to the dividends you earn. Don’t forget that you also might need to pay tax on other types of income, such as any interest you earn on savings. 

Additionally, if you earn over £100,000 per annum, your personal allowance reduces by £1 for every £2 you earn. This means that if you earn £125,000, you won’t be eligible for a tax-free personal allowance.

When do I need to pay dividend tax?

Dividend tax needs to be paid before the end of every tax year, which traditionally runs from 6th April to 5th April.

How do I pay dividend tax?

If you earn up to £2,000 in dividends, you won’t need to do anything because that’s your tax-free dividend allowance. 

If you earn dividends between £2,001 and £10,000, you’ll need to contact HMRC. If you fall into this bracket, you can pay dividend tax* in two different ways, either by asking HMRC to adjust your tax code so your dividend tax is automatically taken from either your salary or your pension, or by completing a self-assessment tax return

If you earn dividends of more than £10,000 per year, you’ll need to complete a self-assessment tax return.

*https://www.gov.uk/tax-on-dividends 

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