Following tax changes included in the latest Budget, self-employed contractors that use personal service companies, in order to pay less tax, will soon be charged accordingly.
Most contractors, including personal service companies, work via a limited company and take most of their income in the form of dividends, which is more tax efficient than taking a large salary.
Now, following the legislation change responsible for the dividend tax rise, a contractor who bills their client for £80,000 will be required to pay an additional 2.5 per cent – or £2,000 – in tax.
Chancellor George Osborne announced that the dividend tax will rise from April next year.
Currently, taxpayers paying the basic rate are not required to pay any tax on dividends.
However, under the new rules, the first £5,000 of dividend income each year will be exempt from tax, but anything over that amount will be subject to it.
For dividend income above £5,000, basic-rate taxpayers will soon have to pay 7.5 per cent, while higher-rate taxpayers will pay 32.5 per cent tax, which represents an increase of 25 per cent.
Anyone who pays the additional 45 per cent tax rate will have to pay a dividend tax rate of 38.1 per cent, which is up from the current figure of 30.5 per cent.
While most contractors legitimately bill their employers through their personal company, a large number should not technically be classing themselves as contractors because they are doing the job of a typical employee.
In these instances, this is a breach of the IR35 tax avoidance rule, which clearly states that people cannot be “disguised employees”.
