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An extra two percentage points on dividend tax could have a meaningful impact on investors from April.
It might not sound a lot, but the extra tax could add up for someone with a fair-sized portfolio. Fortunately, there are way to minimise the impact as we now discuss.
What’s the current system?
Brits can earn up to £12,570 a year without paying tax, known as the Personal Allowance (although you start to lose this once you have income above £100,000). After you exceed this threshold, you’re taxed at between 20% and 45% depending on your taxpayer status.
There is a separate Dividend Allowance on top of the Personal Allowance, where you only pay tax on any dividend income above £500. The dividend tax rates start at 8.75% for basic rate taxpayers, 33.75% at the higher rate, and 39.35% at the additional rate.
An example of how it works in practice:
Let’s say Billy gets £20,000 in dividends and earns £30,000 in wages in the 2025 to 2026 tax year. This gives him a total income of £50,000.
Billy has a Personal Allowance of £12,570. Deducting this amount from his total income leaves a taxable income of £37,430.
He is a basic rate taxpayer, so would pay:
20% tax on £17,430 of wages = £3,486
No tax on £500 of dividends, because of the Dividend Allowance
8.75% tax on £19,500 of dividends = £1,706.25
Total tax: £5,192.25
How much extra tax from 6 April 2026?
The dividend tax rate will go up from 6 April 2026 from 8.75% to 10.75% for basic rate taxpayers, and from 33.75% to 35.75% for higher rate taxpayers. The additional rate will remain unchanged at 39.35%.
The tax hike is designed to bring in additional income for the government to help pay for public services and improve the country’s finances.
Let’s the use the same example to show the impact of the higher tax rate on Billy:
£20,000 in dividends and £30,000 in wages in the 2026 to 2027 tax year.
20% tax on £17,430 of wages = £3,486
No tax on £500 of dividends, because of the Dividend Allowance
10.75% tax on £19,500 of dividends = £2,096.25
Total tax: £5,582.25
Difference: £390
In this example, the dividend tax changes would mean Billy loses an extra £390 to the taxman. That’s the equivalent of a year’s worth of pet or home insurance, or a couple of months’ worth of council tax payments, or a big chunk of an annual broadband bill.
Rather than sit back and do nothing, there are various paths to follow to help minimise the hit to the dividend tax changes. In certain situations, you can avoid paying tax completely.
Option 1: Make the most of your ISA allowance
You don’t pay any tax on dividend income if the investments are held inside an ISA. Adults can contribute up to £20,000 each year across the full range of ISAs, although the proportion going into a Lifetime ISA is capped at £4,000.
There are no restrictions on taking money out of an ISA, apart from the Lifetime ISA where there is a 25% penalty unless using the money to buy your first home or you’re aged 60 and above.
A tax wrapper like a Stocks and shares ISA offers convenience and flexibility, so take advantage of the annual allowance rather than automatically using a Dealing account where capital gains and income are subject to tax.
Option 2: Become tax savvy with ‘Bed and ISA’
If you have investments in a Dealing account and unused ISA allowance, there is a neat way to shelter those assets from the tax man.
You sell the investments and immediately buy them back within the ISA, so you don’t pay capital gains tax or dividend tax on future profits. You only pay one dealing charge for the transaction. Note that the sale part of the Bed and ISA transaction potentially triggers capital gains tax on profits to date.
Option 3: Rethink which investment types go into different accounts
Anyone who regularly buys both income and growth-oriented investments should think about which assets end up in a Dealing account once they’ve used up their annual ISA allowance.
For example, let’s say Nikki each month puts £1,666 into a technology fund that pays no dividends and a £1,666 into an income fund. After six months, she would have used up her £20,000 ISA allowance. Nikki makes the next six months’ investments in a Dealing account until the start of the next tax year when the clock resets on allowances and she can fill her ISA again.
On the basis that she continues to invest the same amounts each month in the same two investments, Nikki might want to use her ISA solely for the income fund going forward, and to put further technology fund investments into her Dealing account.
In doing so, she would not be subject to dividend tax on additional investments in the income fund, and nor on the tech fund assuming it continued to have no yield.
Watch out for tax on reinvested income
While we’re talking about dividends and taxes, a common error is to think that dividends payments from ‘Acc’ funds are tax-free.
‘Acc’ stands for accumulation and is the version of a fund that automatically reinvests any dividends. The version of a fund that pay dividends to investors in cash will have the letters ‘Inc’ (standing for ‘Income) in its name.
Anyone who holds an ‘Acc’ fund outside of an ISA or SIPP (Self-invested personal pension) could be liable for tax on the income stream, even though they haven’t received any cash.
Income reinvested in accumulation units is known as a ‘notional distribution’ and is taxable in the same way as the income from income units.
Dan Coatsworth: Head of Markets
Dan Coatsworth is AJ Bell's Head of Markets. Dan has been with the company since December 2012 and has more than 18 years' experience in the industry, following the markets and all things investing. He...
