Summary
- Dividend waivers can allow one shareholder to receive a dividend while another gives up their entitlement, but HMRC closely scrutinises these arrangements.
- The company must have sufficient distributable profits to pay all shareholders their full dividend, even if one shareholder waives it.
- A valid waiver must be completed by formal deed, witnessed, and put in place before the dividend entitlement arises. A genuine commercial reason should also be documented.
- For ongoing flexibility, consider an alphabet share structure or, in some cases, a director’s loan instead of relying on repeated dividend waivers.
You need to take a dividend from your company but there’s just one problem. Your business partner, who is also a 50% shareholder, doesn’t want to take any more income from the company during this tax year. What’s the solution?
Flexibility
The real tax advantage of operating a business through a company is that you can pick and choose when and how to take income from it. However, when you first set up the company it was probably with an “off the shelf” structure that didn’t account for changes in circumstances. You can find yourself in a situation where the structure no longer gives you the flexibility you need because when a dividend is paid, all the shareholders must receive a payment in proportion to their shareholding in the company. This can cause a problem when shareholders with the same class of shares have different income needs or pay tax at different rates.
Waiving a dividend
One potential solution is to have the other shareholder waive their right to a dividend before it’s declared. This means that you can receive your dividend, but they forgo their right to theirs and in theory, everyone’s happy.
Unfortunately, it isn’t that simple and dividend waivers have fallen out of favour in recent years due to excessive HMRC scrutiny.
Jumping through hoops
HMRC does not like the use of waivers to shift income to someone who pays tax at a lower rate. If it thinks this has happened, it can invoke the so-called settlements legislation to treat the income as belonging to the person who has waived the payment. This is unlikely to apply outside of family companies but nonetheless, there are a couple of boxes to check to stay on the right side of HMRC.
The company must have sufficient profits to cover both the amount paid and the amount forgone.
Example. Two shareholders each own an ordinary share in Acom Ltd, which has £100,000 distributable reserves. It declares a dividend of £75,000 per share and one shareholder waives their dividend. HMRC would challenge this arrangement because Acom could not afford to pay this dividend without the dividend waiver.
HMRC will also look at the cumulative effect of dividend waivers used over several years.
More hoops
You also need to document a commercial reason for the waiver to prevent the risk of HMRC seeking to tax your dividend as employment income under anti-avoidance rules. For example, the company may need to preserve working capital.
A waiver must be made by a formal deed – and so must be witnessed. The waiver must be made before the right to a dividend accrues or it will not be effective.
Alternatives
Dividend waivers are likely to be scrutinised by HMRC, so should only be used for one-off situations. If you need ongoing flexibility an “alphabet” share structure could be implemented such that dividends can be declared independently.
Alternatively, the company could lend you the funds until the next dividend is paid. However, a small amount of income tax will be payable if the loan exceeds £10,000.
