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Converting property income into tax-free dividends?

New dividend tax

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My wife and I own buy-to-let properties, where we pay higher-rate tax on the income. We could form a property management company, which would charge up to 15% of the rents in management fees (about £12k pa). After paying corporation tax of 20%, we could pay ourselves dividends of nearly £10k (nearly£5k each) which would be tax-free. So nearly £10k of income would become taxed at 20% each year instead of 40/45%. Does this work? Thanks, Alan. 

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Hallerud at Easter
By DJKL
18th May 2016 17:54

Not sure it does, I thought (but would need to check) that the £5,000 was not an allowance but a nil rate band, this it used part of the basic rate band.

So before :

Rents £70,000
PA 11,000
Taxable £59,000

Basic rate band 32,[email protected]'20% £6,400
Higher rate 27,000 @40% £10.800
Total tax £17,200
Net in hand £52,800

Your scheme

Rents £64,000 (70,000-6,000)
Dividends 5,000
69000

Divs , 5000 @0% 0
Rents 11,000 @0% 0
Rents 27,000 @20% £5,400 (32,000-5,000)
Higher rate 26,000 @40% £10,400
Total tax 15,800

Net in hand £53,200

saving £400

really not worth having a company

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Replying to DJKL:
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By nazman
23rd May 2016 16:36

The tax saving is £1,400 not £400. worth considering.

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By stratty
18th May 2016 17:56

My understanding is that it is a £5k dividend allowance as opposed to "nil rate". Therefore it does not matter what your marginal rate of tax is.

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Replying to stratty:
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By Paul Soper
19th May 2016 00:09

In the legislation it is, like the personal savings allowance, specifically described as a nil-rate band; HMRC made the error, in the Dividend Fact Sheet they issued last August, of describing it as an exemption - it isn't. Dividends are the top slice of normal income charged at the appropriate marginal rate save and except for the first £5,000 charged at 0%.

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Replying to stratty:
RLI
By lionofludesch
19th May 2016 09:17

stratty wrote:

My understanding is that it is a £5k dividend allowance as opposed to "nil rate". Therefore it does not matter what your marginal rate of tax is.

It's a nil rate band. You may not pay any dividend tax on dividends of less than £5000 but it will definitely count towards docking your Child Benefit if it tips you over the £50k mark. Other traps may appear later as we test out the new system.

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Hallerud at Easter
By DJKL
18th May 2016 18:54

"Dividends within your allowance will still count towards your basic or higher rate bands, and may therefore affect the rate of tax that you pay on dividends you receive in excess of the £5,000 allowance."

https://www.gov.uk/government/publications/dividend-allowance-factsheet/...

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Replying to DJKL:
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By jcace
19th May 2016 00:17

But won't the dividends still be the top slice of income, albeit taxed at 0% within the £5K band? Your original figures showed the 5K as the first slice of income, using up some of the basic rate band, which would only be the case if the remaining income was also dividends.

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Replying to jcace:
RLI
By lionofludesch
19th May 2016 09:20

jcace wrote:

But won't the dividends still be the top slice of income, albeit taxed at 0% within the £5K band? Your original figures showed the 5K as the first slice of income, using up some of the basic rate band, which would only be the case if the remaining income was also dividends.

Yes, dividends will be the top slice and, if dividends are less than £5000, no dividend tax payable. However, watch out for other consequences - HICBC being the one I mentioned above.

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Replying to jcace:
Hallerud at Easter
By DJKL
19th May 2016 09:54

I think you are correct, the order is everything, apologies to the OP, my original computation is flawed, here is my computation reworked:

Rents £70,000

Allowance 11,000 @0%
Basic rate band 32,[email protected]'20% £6,400
Higher rate 27,000 @40% £10.800
Total tax £17,200

Net in hand £52,800

Your scheme

Rents £64,000 (70,000-6,000)
Dividends 5,000
Total income 69000

Rents 11,000 @0% 0
Rents 32.000 @20% £6,400
Rents 21,000 @40% £8,400
Dividends 5,000 '0% £0
Total tax 14,800

Net in hand £54,200

saving £1,400

However for a couple , only saving £2,800 p.a. , once compliance costs of the company are considered (unless capable of a DIY approach re accounts/tax) this saving erodes re the cost of professional fees etc

In addition given the way the industry is going property managers etc will likely have far greater red tape over the next few years, to date we have already seen redress schemes and in Scotland factors registration requirements, I suspect there is more to come both sides of the border.

Whilst the company here only acts for the directors/shareholders as individuals they could be caught by regulation, so setting up such an arrangement one would need to be happy that one could and would keep on top of any such regulatory requirements :- imho life is just too short to add such hassles but each to his/her own.

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By zarar
19th May 2016 09:26

Also you would have to sell the properties to the limited company, so there could be stamp duty, capital gains tax, etc to pay

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Replying to zarar:
By JCresswellTax
19th May 2016 09:34

No you don't.
That isn't what the OP says at all!

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By anitapullara
19th May 2016 11:33

I agree that the legislation states that the £5,000 is part of the basic rate band, however when our Iris update arrived I eagerly tested a few scenarios and found that it only restricted the rate band if there was only dividend income. Other income can still use the whole basic rate band . So putting the figures below into a test calculation produces :-
5,000 @ 0% ( Dividends)
32,000 @20% ( Rents)
21,000 @ 40% (Rents)

Tax due £14,800

The examples in the Dividend factsheet back this up. Very conflicting I agree

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Replying to anitapullara:
RLI
By lionofludesch
19th May 2016 11:40

anitapullara wrote:

I agree that the legislation states that the £5,000 is part of the basic rate band, however when our Iris update arrived I eagerly tested a few scenarios and found that it only restricted the rate band if there was only dividend income. Other income can still use the whole basic rate band . So putting the figures below into a test calculation produces :-
5,000 @ 0% ( Dividends)
32,000 @20% ( Rents)
21,000 @ 40% (Rents)

Tax due £14,800

The examples in the Dividend factsheet back this up. Very conflicting I agree

Not at all. Dividends are the top slice so, in your example, they are part of the higher rate band. Not a problem, so long as you don't have kids.

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Replying to lionofludesch:
By Duggimon
19th May 2016 11:58

lionofludesch wrote:

Not at all. Dividends are the top slice so, in your example, they are part of the higher rate band. Not a problem, so long as you don't have kids.

Like so much in life...

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Replying to anitapullara:
By Tim Vane
19th May 2016 11:56

Grief, I think you rely far too much on your tax software! If the answer is not what you expected then I suggest a quick tax refresher course.

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By mely
19th May 2016 12:10

@OP. The problem you'll likely have is convincing HMRC (and the Tribunal) the management fees are incurred wholly and exclusively for the purpose of the rental business. What argument would you make?

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By Paul Soper
20th May 2016 11:48

There still seems to be a lot of confusion here (probably not surprising - just remember this Dividend income is always the top slice of a tax payer's income under normal circumstances. So the dividend allowance is only part of the basic rate band if the other income is less than the basic rate band, if the other income exceeds the basic rate band then the top slice would be charged at 40% and the dividend allowance is the first £5,000 of the dividend income within the 40% band, and if the other income exceeds £150,000 then the dividend allowance is part of the 45% excess.

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By Alan Rook
20th May 2016 12:36

Many thanks to all who have replied. You have been most helpful. Thank you.

Alan

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7om
By Tom 7000
23rd May 2016 12:45

You are all analysing the outcome...wrong approach

I am with the reply which said

@OP. The problem you'll likely have is convincing HMRC (and the Tribunal) the management fees are incurred wholly and exclusively for the purpose of the rental business. What argument would you make?

Because they may well say you only did it to save tax and you cant have them as a tax deduction in your rental accounts.....

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By cheekychappy
23rd May 2016 12:54

A management charge from a company is perfectly acceptable if it is reasonable ... typically 10-15%. Anything charged way above market charges could be challenged.

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By petestar1969
23rd May 2016 13:29

Were you planning to transfer the title of the properties to the limited company?

If so there would be a Stamp Duty charge and also CGT implications which might make it less attractive.

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Replying to petestar1969:
By JCresswellTax
23rd May 2016 13:39

Ha pete you never read the whole thread :( I have already challenged someone on this point.

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