Do dividends reduce Corporation Tax?

No. Dividends do not reduce your company's Corporation Tax. They are a distribution of profit that has already been taxed, not a business expense, so the company pays Corporation Tax first and dividends come out of what is left.

How it works:

• Corporation Tax is worked out before dividends. It is charged on the company's profit, at 19% up to £50,000 and 25% above £250,000, with marginal relief in between.
• Dividends can only be paid from profits. The company needs enough retained profit after tax. Paying dividends without enough profit makes them an unlawful distribution, which you may have to repay.
• The tax falls on you, the shareholder. The first £500 of dividend income each year is tax free. Above that, the rates are 10.75% for basic rate taxpayers, 35.75% for higher rate and 39.35% for additional rate.

Example: a company makes £50,000 profit. Corporation Tax at 19% is £9,500, leaving £40,500 available to pay out as dividends. Taking a dividend does not change the £9,500.

What does reduce Corporation Tax? Salary does, because salary and employer National Insurance are allowable business costs. So are other genuine business expenses and employer pension contributions. That is why many directors take a mix of salary and dividends. Our dividend tax calculator shows what you keep after tax.

Do it properly: hold a board meeting or written resolution, issue a dividend voucher to each shareholder and keep a record of it. Dividends must be paid in proportion to shareholdings for each class of share.

Legislation:

• Companies Act 2006, section 830 (distributions to be made only out of profits available for the purpose)
• Corporation Tax Act 2009, section 54 (expenses not wholly and exclusively for the purposes of the trade)