Understanding dividends as a UK business owner

You’ve done the hard work and successfully generated a profit. Now comes one of the most exciting and often most confusing decisions a UK business owner faces “how do I take that money out of the company?”​

For limited company owners, this decision usually comes down to two options: a salary or dividends.​

Choosing the right mix of the two is the key to maximising your personal take-home pay while keeping your tax liabilities as low as possible. Since dividends are not subject to National Insurance Contributions (NICs) and have a lower income tax rate than a salary, they are often a tax-efficient way to extract profits from your business.​

In this guide, we’ll cut through the jargon to explain exactly what dividends are, the crucial legal rules you must follow to pay them properly, and the balancing act of keeping money in the business and taking some out.​

At its simplest, a dividend is a share of a company’s profits distributed to its shareholders. The key thing to remember is that dividends are paid from the company’s profits after Corporation Tax has already been accounted for. (This means that dividends are not tax-deductible for corporation tax.)​

This is also where the law gets specific. Dividends can only be declared and paid if there are sufficient ‘distributable reserves’. Think of these reserves as the company's "savings pot" of accumulated, realised profits over its lifetime, not just the profit you made last month.​

It’s crucial to note that simply having a healthy net profit for the current year, or having cash sat in your bank account, does not automatically mean you can pay a dividend. These distributable reserves legally exclude any share capital or certain restricted reserves. If your company has accumulated losses from previous years, for instance, those losses must be covered before any money can be paid out as a dividend.​

This legal requirement to check your reserves is the cornerstone of compliant dividend payment, and getting it wrong is unfortunately one of the most common mistakes business owners make.​

For a dividend to be compliant, it must follow strict procedures laid out in the Companies Act 2006.​

Before a dividend is authorised, the directors have a duty to ensure the company remains solvent after the dividend is paid. This means:​

A dividend isn’t official until it’s formally declared. This requires a director’s meeting and a resolution to be passed (even if you’re the sole director and shareholder). You must keep minutes of the meeting as they’re legal evidence that the directors checked the company’s financial position and confirmed there were sufficient distributable reserves before authorising the payment.​

For every dividend payment, you must issue a dividend voucher to each shareholder receiving a distribution. This is a crucial tax (and legal) receipt that must be retained by both the company and shareholder.​

The voucher must clearly state:​

Dividends are treated as taxable income for shareholders, so are part of your Self Assessment tax return. This is where the tax-efficiency of dividends truly shines, as they’re not subject to National Insurance Contributions (NICs) and dividend income is taxed at lower rates.​

Here’s how personal dividend tax works:​

Tax-free allowances - Every UK taxpayer is entitled to a personal allowance and a dividend allowance. ​

Dividend tax rates​

Any dividend income received above your available allowances are also taxed at special rates depending on your overall personal income tax band (view current rates here).​

Now the final piece of the puzzle is strategy, and the question of how much profit do you want to keep in your business and how much should you take out? You must always weigh up the need for reinvesting profits (e.g. new equipment, hiring staff, marketing campaigns) with the desire to reward shareholders (or yourself if you’re the sole owner and shareholder). Reinvestment is vital for driving future growth and the company’s long-term value. However, rewarding yourself and any other shareholders for the risk and capital invested in the business is also important.​

You also need to work out whether it is wise, and tax-efficient, to also draw a salary from the business. This split between salary and dividends can be complicated to work out, so it’s best to speak with your accountant to make sure you get this right.​

Understanding and effectively managing dividends is fundamental to running a successful limited company in the UK. By balancing the need for reinvestment with the desire to reward shareholders, you secure your company’s long-term success and maximise your personal financial stability.​

The core of successful dividend planning comes down to 3 things​

At Beany, we specialise in helping business owners like you navigate these complex rules. Our experts can review your current profit structure, ensure your documentation is accurate, and provide a tailored profit extraction strategy that keeps your tax bill as low as legally possible.​

If you’re looking for a business accountant for your limited company, book a free consultation with our team.​