The importance of tax planning for dividend income
David Prosser explains the changes in dividend taxation and why advice is crucial.
Amid all the noise about high-profile tax reforms such as next year’s inclusion of pension assets in the inheritance tax net, a more immediate – and potentially more impactful – change is getting overlooked. Financial advisers now need to act urgently to protect their clients from higher dividend taxes.
The increases took effect on 6 April, the first day of the 2026-27 tax year. The rates of tax payable on dividends from shares, and funds that invest in shares, have risen by two percentage points to 10.75% for basic-rate taxpayers and to 35.75% for higher-rate taxpayers. For additional-rate taxpayers, the rate remains at 39.35%.
Combined with the reductions we’ve seen in the dividend allowance in recent times, these hikes will prove expensive for many investors. When the allowance was introduced in 2016, it enabled investors to earn up to £5,000 of dividends each year before any tax was due. Now, after a series of cuts, the dividend tax allowance is 90% lower, with the allowance worth just £500 a year.
After a series of cuts, the dividend tax allowance is 90% lower, with the allowance worth just £500 a year.
David Prosser
As a result, in the 2026-27 tax year, a basic-rate taxpayer who earns £10,000 in dividends will pay £1,021.25 in dividend tax, compared to only £831.25 in 2025-26. A higher-rate taxpayer will pay £3,396.25, up from £3,206.25 previously. The bill for an additional-rate taxpayer is unchanged – but very chunky at £3,738.25.
Investment trust shareholders may be particularly exposed to higher dividend taxes because so many investment trusts strive to pay generous dividends. Last month, the AIC updated its list of dividend heroes; the number of funds that have increased their dividend every year for at least two decades now stands 20, including ten that have a record going back more than 50 years. A further 30 trusts aren’t far behind, boasting between ten and 19 consecutive years of dividend increases.
This focus on dividends, helped by investment trusts’ unique ability to retain dividend income earned on their portfolios to support payouts in lean years, has seen the sector become an important strategic financial planning tool for many advisers. For clients who need regular and consistent income, such as those now drawing down income from pension savings, investment trusts can be crucial.
Hence the need to protect them from rising taxes. Individual savings accounts (ISAs) will be important, providing a wrapper inside which all dividend income is automatically tax-free. Indeed, from a tax perspective, using the ISA allowance to hold stocks and shares, rather than cash, is likely to be more valuable.
Still, given the annual £20,000 limit on ISA investment, it will be important to explore other options too. There is also the possibility of a capital gains tax bill for investors who sell holdings to buy them back inside an ISA.
Another consideration could be venture capital trusts (VCTs), where dividend payments are not subject to tax.
VCT managers structure their portfolios in a way that generates income from asset sales, aiming to provide a stream of tax-free income to shareholders. The funds also offer other generous tax incentives, including income tax relief on investments in new shares, albeit at a lower rate in 2026-27 than in previous tax years.
Naturally, there are no simple solutions. But dividend tax is one of those areas of taxation that often doesn’t get much attention, even though such large numbers of Britons are now relying on dividend income. Providing them with sensible advice on managing that income tax-efficiently is even more important this year.
David Prosser
David is former Business Editor of The Independent, Personal Finance Editor of the Daily Express, and Deputy Editor of Money Observer magazine. He writes regularly for the AIC.
