Taxation on dividends for High Rate tax payers

Dithering_Dad

I was wondering if someone could answer a quick question regarding dividends. I have been looking at investing my Standard Life shares into a Self-select ISA, probably adding in some more companies that pay dividends.

I read in some of the blurb that dividends in ISAs are taxed if you're a high rate tax payer, is this the case? If yes, then how is it done because you don't declare ISAs on your tax return? If you re-invest the dividends to get more shares, will this make any difference?

Are dividends taxed the same way in traditional pensions plans?

Thanks in advance!

jem16

Dividends outwith an ISA are subject to extra tax if you are a higher rate taxpayer. This applies whether or not they are re-invested.

Dividends within an ISA are NOT subject to any more tax.

Not entirely sure about dividends within pensions but I would imagine they would not attract extra tax as the pension is a tax-free wrapper.

Dithering_Dad

Just found this in an article:

"Since April 2004, dividends earned within an Isa have been taxed at 10% - the same rate basic-rate taxpayers pay on those earned outside the wrapper. High-rate taxpayers save 22.5%. Meanwhile, income earned on bond funds in an Isa is tax-free."

"Capital gains are still tax-free, so if your portfolio includes some aggressive growth funds, alongside equity income funds, these may be better held within the Isa."

From the article, it seems that the dividends have tax deducted at source by the company and so the money you receive has been taxed. What doesn't happen is the additional tax that a high-rate tax payer would normally have to pay through his tax return.

jem16

Dividends are always paid with a 10% tax credit which satisfies the tax implications for most basic rate taxpayers. Only those close to HRT have to worry as the dividends still count as taxable income (outwith an ISA) and could take them into the higher rate tax bracket. So whether in or out of an ISA for most basic rate taxpayers it makes no difference.

For higher rate taxpayers this is a big difference as you can ignore all dividends within an ISA and do not need to declare them on your tax return.

With pensions though, the dividend was the big issue which blew up recently for Gordon Brown. As the pension is a tax-free wrapper you used to be able to claim back that 10% credit. Now you cannot.

However as far as I know the dividend within the pension is still not subject to higher rate tax.

dunstonh

Pensions and ISAs are the same. Media of course ignored the fact that every tax wrapper was affected by the tax credit changes and picked on pensions as that is fashionable.

cheerfulcat

No. The media quite rightly picked up on the fact that large pension funds were badly affected, which will hurt many " ordinary " people ( ie those without ISAs or other tax-sheltered savings ). The funds have taken a 25% hit in income, after all.

EdInvestor

Dividends come with a 10% tax credit attached. This pays the tax for a BRT, while an HRT is charged 25% extra (still rather better than the 40% payable on other asset classes.)There is no tax payable for dividends accruing within a pension or an ISA.

The confusion re ISAs is a result of a change to the system in 1997.At that time the tax credit actually represented tax that had been paid by the company, and investors could reclaim this tax in a pension or ISA.

However in 1997, the tax system was changed so that the tax payable was levied in the form of advance corporation tax.From then on the tax credit didn't reflect any tax that could be paid and could not be claimed back.However there was a transition period duing which ISAs were still able to reclaim the tax credit - it is the end of this transition a couple of years ago which has created the confusion.

So when you get your SL dividend, you will see the total includes the net divi you were expecting plus 10% extra for the tax credit.

If you are a BRT the 10% tax is tus paid: if you are an HRT, you have to pay 25% tax on the divi plus the tax credit. if the shares are in an ISA you have nothingf to pay. As a result of this, the ISA wrapper does not confer much benefit on investors in shares who are BR taxpayers ( unless they are over 65 or with substantial capital), since the CGT allowance of 9,200 on realised gains is also quite generous.

Since it is so easy to invest directly in shares (or equity funds) free of tax, it may be better to use the ISA for other investments such as bonds and property funds.

Of course it is still worth using the ISA for shares if you are on higher rate.

jem16

EdInvestor wrote: »

If you are a BRT the 10% tax is tus paid:

Unless you are a BRT whose dividend income takes you into the HRT bracket. The you still have to pay the extra tax.

It does happen and is worth noting.

dunstonh

and if you are over 65 and earning more than £20,900, your tax liaiblity will increase due to the reduction in age allowance.

EdInvestor

dunstonh wrote: »

and if you are over 65 and earning more than £20,900, your tax liaiblity will increase due to the reduction in age allowance.

Yes as I mentioned, there can be an advantage there, in which case get the shares paying the biggest percentage of your income into the ISA first .