Order of precedence for tax question and related issues

Gazoza

I have the following income streams:-

1. State Pension (already more than the Personal Allowance)

2. Private pension (annuity, as it happens)

3. Interest income

4. Dividend income

In previous years the first 3 of the above and at least a substantial part of the 4th item fell below the Higher Rate Tax (HRT) band.

However, this year my income is such that, in the 'natural' course of events, the nil rate £500 dividend allowance spans the top end of the Basic Tax Rate (BRT) band and the start of HRT band (in fact £270 in BRT and £230 in HRT). In doing my own provisional tax calculations, that is how I totted things up, i.e. in order of 1,2,3.4. – so, in order: state pension; annuity; interest (all in BRT band, with nil rate £500 first, followed by BRT band); dividend (nil rate £500 first with £270 in BRT band and £230 in HRT band,followed by remainder of dividend all in HRT band).

For the avoidance of doubt, due to the combined value of state pension + annuity I cannot use the £5000 Savings Start Rate facility).

Upon doing my 2025-26 SA return, when I got to View My Calculation I was thrown by the way HMRC had done things. At this stage I should say that I am loosely familiar with the concept of being allowed to arrange one's tax affairs in a manner that is most beneficial to oneself (in fact I have found in the past that HMRC automatically does this – i.e. orders things to be most beneficial to the taxpayer), although I am also aware that starting from April 2027 it is all change!

So back to the point in question. In HMRC calcs, £270 of the dividend had been moved to an earlier position and lumped in with “Pay, Pensions & Profits etc.”and taxed at 20%. This has the effect of making the interest income finish a the very top of the BRT band followed by the 0% £500 dividend allowance being in position at the very start of the HRT.

The net effect is that £270 less is taxed at 33.75% and £270 more is taxed at 20%.

So I have 2 questions:-

A. Is it right that a portion of the dividend (£270 in this case) is 'moved' in this way? I should add that in years gone by HMRC have automatically moved part of my dividend income into the Personal Allowance (PA) spectrum to utilise 'spare' PA available (and so an example of HMRC automatically arranging things to be most beneficial for me) .

B. But the £270 being taxed at 20% seems odd - why not 8.75% (as that is the tax rate for dividends in the BRT band)?

I only managed to work this out by looking at and playing with the numbers. HMRC do not give any explanation whatsoever as to what they have done. In HMRC's calcs the actual dividend sum where tax is charged has been reduced by £270 and the “Pay, Pensions & Profits etc.” has been increased by £270 with attendant changes in the amounts of tax calculated in those rows.

In the end the amount of tax involved is fairly small and as things change next year what happens in the short term probably has no long term bearing. But I'm intrigued all the same.

Dazed_and_C0nfused

I'm not sure you have understood this correctly.

What is your actual dividend income (the amount you entered as income on your tax return).

When you look at the calculation how much is in the dividend section (inclusive of any dividend income taxed at 0%).

Gazoza

I think I have it sussed now:-

HMRC have allocated £270 of the dividend (that would otherwise have fallen within HRT) to sit within the PA. This has pushed £270 of pensions into the BRT band and it is this that is being taxed at 20%.

It would help a whole lot more if HMRC gave a comprehensive breakfown of their calcs.

OdiumChloride

I think I have it sussed now:-

HMRC have allocated £270 of the dividend (that would otherwise have fallen within HRT) to sit within the PA. This has pushed £270 of pensions into the BRT band and it is this that is being taxed at 20%.

That does not sound right to me, because unless I'm misunderstanding something, it would not be in your favour to use up some of your Personal Allowance (PA) on dividend income when that is taxed at lower rates than pensions or savings interest.

My understanding is that the standard order of precedence is that Non-Savings income (your two pensions) are dealt with first, then Savings Income, then Dividends. So PA is allocated in that order.

So In your case I would expect all the PA would be used up by your pensions. Then the remainder of your pensions would be in the BRTB.

Then the Interest is covered by firstly by the £500 Personal Savings Allowance (also called the Savings Nil Rate Band, and reduced from the full £1000 allowance because your overall income makes you a higher rate tax payer) with the remainder being in the BRTB.

Then you say the dividends are covered by the £500 dividend allowance, and then of the remainder, £270 is in the BRTB and £230 in the HRTB.

You can use HMRC's own calculator on their website to test this using your own personal figures. I'm not allowed to post links but you can find the calculator by Googling "HMRC Check how much tax you pay on dividends and interest from savings".

Unfortunately, it does not show the full breakdown, just what tax you end up paying on the Savings Interest and Dividends - but you can see that neither are covered by the personal allowance, just the £500 allowances and then the remainder taxed at BRT and HRT.

dales1

Gazoza, you are perfectly correct. HMRC do indeed allocate the PA to alleviate any higher rate tax payable - see my previous posts on this eg here .

But as I understand things, this current "generosity" to taxpayers will be withdrawn next year in yet another tax raid.

My own tax calculation from HMRC shows a PA allocation to dividends that operates to avoid HRT (despite OC's assertion) although OC is correct in that HMRC do not lay out the calculation in a full manner so that this PA allocation is clear.

OdiumChloride

https://forums.moneysavingexpert.com/discussion/comment/82077061#Comment_82077061

@dales1 Having read that previous post, I think I understand my error, thanks. But just to be sure this is my understanding now - can you confirm this is correct?

In this case the Personal Allowance has been allocated to the dividend income first. So that covers the £230 that would have been taxed at basic rate and the £270 that would have been taxed at higher rate.

Then the remainder of the Personal Allowance is allocated to the pensions income.

This means that although you lose a little by allocating PA to the basic rate dividends, that is outweighed by the benefit of also allocating PA to the higher rate dividends, and so the overall tax bill is slightly lower than if the all of the PA had been allocated to the pensions income as is more usual.

dales1

Hi O-Cl - it's actually a little more 'generous' than that.

If it is beneficial, HMRC would allocate personal allowance against just those dividends subject to higher rate tax. Therefore saving tax at 33.75% on those divis.

(Divis subject to lower rates of tax would be unchanged).

But obviously some other income might be pushed in to 20% tax, but it's still beneficial for the taxpayer.