Interest & dividend taxation

[Blagdon]

I have rather lost the plot with all the tax complications around interest and dividends and would be really grateful for some help.

My objective is to withdraw as much money as possible from a pension whilst still avoiding higher rate taxes.

My key numbers for 2017/18 are…
• Taxable salary after allowable expenses = £14,500
• Interest = £1,600
• Dividends = £4,900 (but possibly may just nudge over £5,000)
• Other income = £300 (taxable commission rebate)

I am pretty sure that I can get at least £45,000 in 2017/18 before I start paying higher rate tax. But I am not certain how the interest & dividend allowances / nil rate bands work in detail. Therefore I think I am ok to withdraw a total of at least £31,600 -- of which 75% ie £23,700 would be taxed at standard rate.

What I am not sure about is if I can withdraw more and still not pay higher rate tax because of the interest & dividend allowances / nil rate bands?

I would really appreciate any pointers.

[pochisoldi]

I have rather lost the plot with all the tax complications around interest and dividends and would be really grateful for some help.

My objective is to withdraw as much money as possible from a pension whilst still avoiding higher rate taxes.

My key numbers for 2017/18 are…
• Taxable salary after allowable expenses = £14,500
• Interest = £1,600
• Dividends = £4,900 (but possibly may just nudge over £5,000)
• Other income = £300 (taxable commission rebate)

I am pretty sure that I can get at least £45,000 in 2017/18 before I start paying higher rate tax. But I am not certain how the interest & dividend allowances / nil rate bands work in detail. Therefore I think I am ok to withdraw a total of at least £31,600 -- of which 75% ie £23,700 would be taxed at standard rate.

What I am not sure about is if I can withdraw more and still not pay higher rate tax because of the interest & dividend allowances / nil rate bands?

I would really appreciate any pointers.

Interest and dividends covered by their respective allowances still form part of your taxable income, the dividend/savings "allowance" is better described as a "0% tax band", rather than a "tax free allowance".

Your maths looks correct to me.
PochiSoldi

[JohnB]

If you are registered for Self Assessment tax returns on line, use the website as a what-if calculator. You can calculate your tax position and alter it many times before finally submitting it

[PinkDalek]

If you are registered for Self Assessment tax returns on line, use the website as a what-if calculator. You can calculate your tax position and alter it many times before finally submitting it

That might work for 2016/17 but even then, as has been discussed previously, the HMRC software doesn't always give the correct answer. That having been said, I doubt the calculator is available yet for 2017/18 and, when it is, it will probably be too late for the OP.

[genou]

If you are registered for Self Assessment tax returns on line, use the website as a what-if calculator. You can calculate your tax position and alter it many times before finally submitting it

That might work for 2016/17 but even then, as has been discussed previously, the HMRC software doesn't always give the correct answer. That having been said, I doubt the calculator is available yet for 2017/18 and, when it is, it will probably be too late for the OP.

The amounts of allowances change, but it is easy enough to alter the input numbers to account for this and get a projection of tax to pay in different scenarios. The OP numbers suggest that the boundary conditions where the HMRC software can't cope will not apply.

[XFool]

Also, there is always this:

https://www.ageuk.org.uk/money-matters/ ... alculator/

Though they appear to be having problems currently.

[JohnB]

That might work for 2016/17 but even then, as has been discussed previously, the HMRC software doesn't always give the correct answer. That having been said, I doubt the calculator is available yet for 2017/18 and, when it is, it will probably be too late for the OP.

It may give the wrong answer, but its the system that calculates your tax bill! I think its wrong about the Starting Rate for Savings, but the error is in my favour, so I'm not going to query it. I guess if you send in a paper return, its keyed into the same system, so you'd get the same result.

[scotia]

I'm trusting that you are not resident in Scotland. 19%, 20% and 21% bands and a lower higher tax (41%) threshold. Any good guesses as to whether or not HMRC software will cope?
Sorry for not being more helpful!

[PinkDalek]

That might work for 2016/17 but even then, as has been discussed previously, the HMRC software doesn't always give the correct answer. That having been said, I doubt the calculator is available yet for 2017/18 and, when it is, it will probably be too late for the OP.

It may give the wrong answer, but its the system that calculates your tax bill! ... I guess if you send in a paper return, its keyed into the same system, so you'd get the same result.

The instructions for those who were potentially impacted by HMRC's software exclusions for 2016/17 (not saying this impacted the OP) were to file Paper Returns and when processed they should result in the correct figures.

Taxpayers affected must file a paper return: the deadline for paper filing excluded returns is changed to 31 January 2018 as per https://www.rossmartin.co.uk/sme-tax-ne ... assessment.

As for the OP playing with the 2016/17 calculations online at HMRC to get to the 2017/18 figures (subject to band changes etc) this could conceivably go wrong.

[DrFfybes]

I have rather lost the plot with all the tax complications around interest and dividends and would be really grateful for some help.

My objective is to withdraw as much money as possible from a pension whilst still avoiding higher rate taxes.

My key numbers for 2017/18 are…
• Taxable salary after allowable expenses = £14,500
• Interest = £1,600
• Dividends = £4,900 (but possibly may just nudge over £5,000)
• Other income = £300 (taxable commission rebate)

I am pretty sure that I can get at least £45,000 in 2017/18 before I start paying higher rate tax. But I am not certain how the interest & dividend allowances / nil rate bands work in detail. Therefore I think I am ok to withdraw a total of at least £31,600 -- of which 75% ie £23,700 would be taxed

From a normal Income tax perspective...

First £5k of Dividend income is ignored.
First £1k of interest is ignored.

So your taxable income is £14500 + £600 + £300 = £15,400, which by my maths leaves £29,600 before you trigger 40%, not £31,600.

Once you hit 40% the untaxed interest reduces to £500 (which means the total tax unpaid is still £200). Any dividends over £5k are taxed at 7.5% rather than the 20% you'd pay on other sources of income, this increases to 32.5% if you hit the £45k limit.


Who says Tax doesn't have to be taxing.

Paul

[PinkDalek]

I have rather lost the plot with all the tax complications around interest and dividends and would be really grateful for some help.

My objective is to withdraw as much money as possible from a pension whilst still avoiding higher rate taxes.

My key numbers for 2017/18 are…
• Taxable salary after allowable expenses = £14,500
• Interest = £1,600
• Dividends = £4,900 (but possibly may just nudge over £5,000)
• Other income = £300 (taxable commission rebate)

I am pretty sure that I can get at least £45,000 in 2017/18 before I start paying higher rate tax. But I am not certain how the interest & dividend allowances / nil rate bands work in detail. Therefore I think I am ok to withdraw a total of at least £31,600 -- of which 75% ie £23,700 would be taxed

From a normal Income tax perspective...

First £5k of Dividend income is ignored.
First £1k of interest is ignored.

So your taxable income is £14500 + £600 + £300 = £15,400, which by my maths leaves £29,600 before you trigger 40%, not £31,600.

Sorry but you do not appear to be comparing like with like.

The OP's £31,600 includes the 25% lump sum tax free pension withdrawal. Thus the £23,700 + present taxable income of £21,300 = £45,000.

Further, as has been said earlier, the dividend allowance and the personal savings allowance are bands and not allowances and shouldn't be knocked off the taxable income in the way you have shown.

[DrFfybes]

I have rather lost the plot with all the tax complications around interest and dividends and would be really grateful for some help.

My objective is to withdraw as much money as possible from a pension whilst still avoiding higher rate taxes.

My key numbers for 2017/18 are…
• Taxable salary after allowable expenses = £14,500
• Interest = £1,600
• Dividends = £4,900 (but possibly may just nudge over £5,000)
• Other income = £300 (taxable commission rebate)

I am pretty sure that I can get at least £45,000 in 2017/18 before I start paying higher rate tax. But I am not certain how the interest & dividend allowances / nil rate bands work in detail. Therefore I think I am ok to withdraw a total of at least £31,600 -- of which 75% ie £23,700 would be taxed

From a normal Income tax perspective...

First £5k of Dividend income is ignored.
First £1k of interest is ignored.

So your taxable income is £14500 + £600 + £300 = £15,400, which by my maths leaves £29,600 before you trigger 40%, not £31,600.

Sorry but you do not appear to be comparing like with like.

The OP's £31,600 includes the 25% lump sum tax free pension withdrawal. Thus the £23,700 + present taxable income of £21,300 = £45,000.

Further, as has been said earlier, the dividend allowance and the personal savings allowance are bands and not allowances and shouldn't be knocked off the taxable income in the way you have shown.

Now I am confused - I don't have the return in front of me, but I was pretty sure that on the tax return the £3k or so dividend income was shown as taxed at 0%. It did not appear (in their calculations) to contribute to taxable income.

Are you saying that if I earn a salary of 45k plus 4k of dividends, then I pay 40% tax on 4k of my salary even though there is no tax on the Dividends?

Paul

[pochisoldi]

From a normal Income tax perspective...

First £5k of Dividend income is ignored.
First £1k of interest is ignored.

No - it is not ignored.

The first £5k of dividend income is taxed at 0%
The first £1k of interest income is taxed at 0% (if you don't fall into the higher tax rate band).

(For interest income, if HM Government did it properly, you should be able to claim a tax deduction of the lower of the tax due on interest or £200, but that would require far too much common sense and therefore results in people being hit by a penal marginal rate if their interest income pushed them into the HRT band...)

PochiSoldi

[PinkDalek]

Amended reply (I have requested my previous reply and the follow up is deleted, so as not to confuse). This time around I hope I am correct but I'm getting confused as well!

Now I am confused - I don't have the return in front of me, but I was pretty sure that on the tax return the £3k or so dividend income was shown as taxed at 0%. It did not appear (in their calculations) to contribute to taxable income.

Are you saying that if I earn a salary of 45k plus 4k of dividends, then I pay 40% tax on 4k of my salary even though there is no tax on the Dividends?

I think I am saying so. As you say, your 2016-17 dividends were taxed at 0%. It is not that they were not taxable.

Based on my paper Self assessment: Tax Calculation for 2016-17 but amending for the 2017-18 increases, those figures might look like:

Income Received (before tax taken off)

Salaries £45,000
Dividends from UK companies £4,000
Personal allowance -£11,500

Total income on which tax is due £37,500

Followed by:

How I have worked out your Income Tax

Dividends from companies etc
Nil rate £4,000 x 0% = £0.00

Basic Rate £29,500 x 20% = £5,900.00

Higher rate £4,000 x 40% = £1,600

Total income on which tax has been charged £37,500


In other words, the dividends falling with the £5,000 (falling to £2,000 wef 2018-19) are a band taxed at the zero rate, as per earlier in the thread. The legislation talks about Income charged at the dividend nil rate rather than a misdescribed allowance.

[daveh]

Amended reply (I have requested my previous reply and the follow up is deleted, so as not to confuse). This time around I hope I am correct but I'm getting confused as well!

Now I am confused - I don't have the return in front of me, but I was pretty sure that on the tax return the £3k or so dividend income was shown as taxed at 0%. It did not appear (in their calculations) to contribute to taxable income.

Are you saying that if I earn a salary of 45k plus 4k of dividends, then I pay 40% tax on 4k of my salary even though there is no tax on the Dividends?

I think I am saying so. As you say, your 2016-17 dividends were taxed at 0%. It is not that they were not taxable.

Based on my paper Self assessment: Tax Calculation for 2016-17 but amending for the 2017-18 increases, those figures might look like:

Income Received (before tax taken off)

Salaries £45,000
Dividends from UK companies £4,000
Personal allowance -£11,500

Total income on which tax is due £37,500

Followed by:

How I have worked out your Income Tax

Dividends from companies etc
Nil rate £4,000 x 0% = £0.00

Basic Rate £29,500 x 20% = £5,900.00

Higher rate £4,000 x 40% = £1,600

Total income on which tax has been charged £37,500


In other words, the dividends falling with the £5,000 (falling to £2,000 wef 2018-19) are a band taxed at the zero rate, as per earlier in the thread. The legislation talks about Income charged at the dividend nil rate rather than a misdescribed allowance.

That's going to really mess up tax calcs in Scotland. With the new 19% and 21% tax bands, if the interest and dividend are counted first and taxed at 0% then more income will be pushed into the 21% band that HMRC won't know about via PAYE, so a lot of extra people will need to do a tax return. Which will be a pain in the butt.that km

[pochisoldi]

That's going to really mess up tax calcs in Scotland. With the new 19% and 21% tax bands, if the interest and dividend are counted first and taxed at 0% then more income will be pushed into the 21% band that HMRC won't know about via PAYE, so a lot of extra people will need to do a tax return. Which will be a pain in the butt.that km

The general rule is that earned income gets taxed first, then savings, then dividends, with each type of income taxed according to its own rules.
This applies across the UK.

It should also be noted that savings and dividend income tax rates are reserved to Westminster - only "non savings non dividend" income tax is determined by Holyrood.

[scotia]

It should also be noted that savings and dividend income tax rates are reserved to Westminster - only "non savings non dividend" income tax is determined by Holyrood.

What a glorious mess!

[greygymsock]

i haven't got my head round how this would work in scotland, but otherwise i think i can answer this accurately ...

My objective is to withdraw as much money as possible from a pension whilst still avoiding higher rate taxes.

My key numbers for 2017/18 are…
• Taxable salary after allowable expenses = £14,500
• Interest = £1,600
• Dividends = £4,900 (but possibly may just nudge over £5,000)
• Other income = £300 (taxable commission rebate)

I am pretty sure that I can get at least £45,000 in 2017/18 before I start paying higher rate tax. But I am not certain how the interest & dividend allowances / nil rate bands work in detail. Therefore I think I am ok to withdraw a total of at least £31,600 -- of which 75% ie £23,700 would be taxed at standard rate.

What I am not sure about is if I can withdraw more and still not pay higher rate tax because of the interest & dividend allowances / nil rate bands?

a pedantic aside: your plan seems to be to draw from the pension using UFPLS (since you mention drawing a lump sum, 75% of which is taxable). you could draw a larger sum, without paying more tax on it, by crystallizing the whole pension (drawing 25% of the whole pension, tax free), and then drawing the same £23,700 from the now-crystallized pension (as taxable income). but presumably you have reasons for using UFPLS, in which case ignore this paragraph.

on your figures, £23,700 of pension income will just keep your income within the basic rate band. however, drawing that pension income will incur not just 20% income tax on that figure, but also 20% income tax on £600 of interest. (a minor difference - this makes an effective overall tax rate of 20.51% on the £23,700.)

this is because, when you draw the pension income, £1,000 of interest is covered by the personal savings allowance, and the rest is taxable. but without the pension income, the interest is also covered by the 0% starting rate for savings, so it's all taxed at 0%.

to see this, you need to stack your taxable income up in 3 slices:
dividends at the top;
savings (i.e. interest) in the middle;
and non-savings (i.e. everything else - including salary, commission rebate, and pension) at the bottom.

without the pension, you have:
dividends £4,900
savings £1,600
non-savings £14,800

after setting the £11,500 personal allowance against most of the non-savings, you are left with:
dividends £4,900
savings £1,600
non-savings £3,300

the 0% starting rate for savings is a £5,000-wide band, which lies parallel with the bottom of the £33,500-wide basic rate band. so, with £3,300 non-savings at the bottom, the £1,600 of savings income is all within the 0% starting rate, with £100 to spare. (though you actually have £1,100 to spare before paying any tax on interest, because you also have the £1,000 personal savings allowance available, which can be set against any savings income not covered by the starting rate. the PSA is really another 0% band, which also lies parallel with the basic rate band.)

but with the pension, you have:
dividends £4,900
savings £1,600
non-savings £38,500

and after setting the £11,500 personal allowance against part of the non-savings, you are left with:
dividends £4,900
savings £1,600
non-savings £27,000

so now the bottom £5,000 (and more) of the basic rate band is filled with non-savings income, so you don't get to use the starting rate for savings at all.

but can you draw more income, without paying higher rate tax?

the next £1 of pension income you draw will see your personal savings allowance cut from £1,000 to £500, so that is an immediate £100 penalty.

however, the top £1 of your income, which is now in the higher-rate band, is dividend income, which is all covered by the £5,000 dividend "allowance". this is really another 0% band, which lies parallel with the basic or higher (or additional) rate band. it applies to the lowest £5,000 of dividend income (other than any dividends which have had the personal allowance set against them).

so if you draw an additional £4,900 of pension income (for a total of £28,600 taxable pension income), you have £4,900 of income in the higher-rate band, but that is all dividends, which are taxed at 0% regardless. so the extra tax you pay on that £4,900 is 20% + the £100 PSA penalty, which is an effective rate of 22.04%.

however, you mentioned that your dividends might slip over £5,000. that happens to make it more complicated.

suppose you have £5,100 of dividends. so to make your taxable income £45,000, and stay strictly as a basic-rate taxpayer, you'd only draw £23,500 of taxable income from the pension.

what happens now if you draw more than that?

the £5,000 dividend allowance/band applies to the lowest £5,000 of dividends. in the strictly basic-rate position, you are paying 7.5% tax on the top £100 of dividends. if that top £100 of dividends were pushed into the higher-rate band, in would be taxed at 32.5% (which is 25% more), in addition to the 20% tax on the extra pension income itself. which makes the effective marginal tax rate 20%+25% = 45% (and that's ignoring to the £100 penalty for the reduced personal savings allowance/band).

the previous paragraph is actually wrong, because the order of taxation (i.e. dividends above savings above non-savings) is only fixed when using bands, not when using your personal allowance. the personal allowance should be set against whatever kind of income is most favourable to the taxpayer. and in this case, it is more favourable to set up to £100 of the PA against dividends (just enough to avoid that 32.5% tax on dividends). then, with £100 extra pension income, you pay 20% on that pension income itself, and save 7.5% on the £100 of dividends which are now covered by the PA, but also pay 20% on £100 of non-savings income which is no longer covered by the PA (displaced by dividends), so the effective tax rate is 20%-7.5%+20% = 32.5%. which is lower than the 45% effective rate according to the previous paragraph. (and is still ignoring the £100 PSA penalty.)

clearly you wouldn't want to draw just that £100 of extra pension income. but would you want to draw an extra £5,000?

an extra £5,000 of pension income (taking the total to £28,500) would put you £5,000 into the higher-rate band, but that top £5,000 is all dividends taxed at 0%. with part of the PA used against the other £100 of dividends. so the effective tax on the extra £5,000 is 32.5% on the first £100 (as calculated 2 paragraphs ago), and 20% on the remaining £4,900, plus the £100 PSA penalty, which comes to an overall effective rate of 22.25%.

so, with £5,100 of dividends and £28,500 of taxable pension income, you have:
dividends £5,100
savings £1,600
non-savings £43,300

and after setting £11,400 of the PA against non-savings income, and £100 against dividends, that leaves:
dividends £5,000
savings £1,600
non-savings £31,900

the non-savings and savings exactly fill the £33,500 basic-rate band. the dividends are in the higher-rate band, but also covered by the 0% dividend allowance/band.

i hope that's all clear (hollow laugh).

[Blagdon]

Hi greygymsock

Many thanks - that was impressive.

I do have reasons for using UFPLS, but they may be wrong...
* I have Fixed Protection
* I am only 10% away from the protection limit
* I do not really want to increase the amount of taxable savings/investments if I can avoid it
* I wanted to fully utilise my basic rate band to start withdrawing some money from my pensions
* I am fully using his & hers ISAs etc
* I am maximising my wife's pension contributions up to the limit of her salary

Do you know if HMRC is capable of coping with your final point around order of taxation. I ask the question for 2 reasons...
* When I did a bit of 'what if' with HMRC self-assessment last year, I think some of their calculations were wrong
* For last tax year, HMRC treated me as PAYE and sent me £200 refund cheque. I completed Self Assessment and paid them £400 it said I owed. I pretty sure that my self assessment is right and they are wrong! I am still trying to get them to sort it out.

As an aside, I think it is wrong that a supposedly 'self assessment' tax regime is this complicated. An average person should be able to sort it out without needing to use a specialist.

Many thanks
Blagdon

[DrFfybes]

Amended reply (I have requested my previous reply and the follow up is deleted, so as not to confuse). This time around I hope I am correct but I'm getting confused as well!

Now I am confused - I don't have the return in front of me, but I was pretty sure that on the tax return the £3k or so dividend income was shown as taxed at 0%. It did not appear (in their calculations) to contribute to taxable income.

Are you saying that if I earn a salary of 45k plus 4k of dividends, then I pay 40% tax on 4k of my salary even though there is no tax on the Dividends?

I think I am saying so. As you say, your 2016-17 dividends were taxed at 0%. It is not that they were not taxable.

Based on my paper Self assessment: Tax Calculation for 2016-17 but amending for the 2017-18 increases, those figures might look like:

Income Received (before tax taken off)

Salaries £45,000
Dividends from UK companies £4,000
Personal allowance -£11,500

Total income on which tax is due £37,500

Followed by:

How I have worked out your Income Tax

Dividends from companies etc
Nil rate £4,000 x 0% = £0.00

Basic Rate £29,500 x 20% = £5,900.00

Higher rate £4,000 x 40% = £1,600

Total income on which tax has been charged £37,500


In other words, the dividends falling with the £5,000 (falling to £2,000 wef 2018-19) are a band taxed at the zero rate, as per earlier in the thread. The legislation talks about Income charged at the dividend nil rate rather than a misdescribed allowance.

I've now seen the return, and you are correct. We opened a SIPP on the 2nd April and piled in a guestimate to take taxable income under the 40%. Because it was a guess I actually undershot, as I worked out what needed to BE in the SIPP and put that much in. The SIPP provider then reclaimed the tax which covered the dividend income, so the grand total was still under the 40% limit. The "How we worked out your tax" shows the divi and (most of the) interest at 0%.

I needed to read it twice to realise was that the SIPP payment increased the basic rate threshold in their calc, rather than reducing taxable income in the way I worked it out.

Many thanks for this, as it does mean this years SIPP needs to be more than I thought to cover the dividends.

Paul

Paul