Tax Tip 10: How to pay a dividend correctly

You can’t treat the company bank account like an extension of your own personal money. The cash in the bank is the company’s – not yours – and must be withdrawn in the correct manner.  Failure to do this could mean additional tax and HMRC scrutiny.

Most of you will know that the most tax efficient way for a Director to pay themselves through a limited company is this through a mix of salary and dividends. However there has been a dramatic increase in the amount of directors and limited company contractors obtaining illegal loans or illegal dividends from their businesses.

If HMRC rule that loans or dividends have been made illegally then the payments are likely to be taxed as if they were salaried income in the hands of the recipient, and will be subject to PAYE and NIC.

There are three steps to follow to ensure that a dividend is paid correctly and according to HMRC rules.

  1. Dividends must be made out of distributable reserves (basically company profits after tax). The director(s) must ensure that they have evidence that the company has sufficient profits prior to making a dividend payment – for example by having management accounts prepared by an accountant or by running a profit and loss report from their accounting system. As many businesses are not profitable in the first few months of trading this means a dividend cannot be declared. Our best advice is that you should check with your accountant to ensure you have a robust accounting system which can accurately measure your profits/losses at any time in the year.
  2. The dividend must be approved by a meeting of the board. Minutes of the meeting must be drawn up and the amount of the dividend recorded in the minutes. If you are a one man band – then yes this means you have to have a meeting with just yourself.
  3. Dividend vouchers must be prepared and distributed to each shareholder. Your accountant will be able to provide you with a suitable template. An online accounting system like FreeAgent can produce dividend vouchers directly linked to the payment.

Once these three steps have been completed, payment of the dividend can be made from the company bank account.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s