National Insurance and dividend rates to increase
Updated: Oct 22
A new 1.25% health and social care tax is being introduced on earned income and share dividends to help the NHS recover from the Covid-19 pandemic and improve social care in England.
On 7 September 2021, Boris Johnson announced that National Insurance and dividend tax rates will increase to help fund social care, pay for coronavirus support measures and clear the NHS backlog.
She said that the levy would fix the long term problems of health and social care that have been 'cruelly exposed by Covid'. The announcement does break the government’s manifesto pledge to freeze the rates of National Insurance. However, the significant effects of Covid-19 were not foreseen in the manifesto pledge.
The levy should mean that people in need of long term care should not pay more than £86,000 over their lifetime, excluding the cost of their accommodation. Furthermore, those with assets of up to £20,000 should not pay for their care costs.
The 1.25% levy is expected to last for three years and help to raise £12bn per year, £36bn over the three year period, for health and social care.
Boris Johnson said that no one earning less than £9,568 will pay more. That links with the National Insurance bands for employees and the self-employed. However, as dividends over £2,000 are subject to dividend tax, we wonder whether this is completely true. It appears not! No mention was made as to whether there will be any changes to the tax free dividend allowance for 2022-23.
Employees and the self-employed will pay more ‘tax’ from April 2022.
Currently employees pay 12% National Insurance on salaries between £9,564 and £50,268. However, only 2% is paid in National Insurance above this threshold.
This makes National Insurance different from income tax, which increases from 20% to 40% once earning exceed £50,270.
From April 2022, National Insurance rates will increase by 1.25%.
From April 2023, National Insurance rates will return to their current rates. However, a new Health and Social Care Levy will instead be introduced at a rate of 1.25%, to cover the reduction in National Insurance back to 2021-22 rates.
From April 2023, wages payslips will show a separate line for the new ‘Health and Social Care Levy’. A similar new line is expected to be shown on the Self Assessment tax calculation to collect the levy from the self-employed.
The National Insurance increase will only apply for the 2022-23 tax year. It will then be replaced by the new levy for the tax year 2023-24 onwards.
The increase in National Insurance will be paid by both employers and employees, therefore collecting an extra 2.5% on earnings over £9,564.
Individuals who earn under £9,564 don't pay National Insurance and will not pay the new levy.
Employers will also pay another 1.25% in National Insurance, increasing their rate from 13.8% to 15.05%.
Most smaller employers will not bear the extra National Insurance as any employer's National Insurance up to £4,000 can be recovered through the Employment Allowance each tax year.
For 2022-23, the extra 1.25% will be extra National Insurance. However, from 2023-24, the extra 1.25% will be collected through the new levy. Some wondered whether this later increase may not be included in the Employment Allowance. However, the announcement goes on to says "the Employment Allowance, which discounts the smallest businesses’ employer NICs bills by up to £4,000, will also apply to the Levy."
In addition, no National Insurance is payable by businesses employing people under the age of 21 and apprentices up to the age of 25.
Individuals earning £20,000 pa will pay an extra £130, whilst an individual earning £50,000 pa will pay an extra £505.
To show what this will mean for employees, the table below should be helpful.
Employees and employers pay Class 1 National Insurance and the rates above relate to this Class of national Insurance.
The increases also affect:
Class 1A National Insurance on benefits in Kind.
Class 1B National Insurance on PAYE Settlement Agreements.
Section 455 tax that applies to overdrawn directors loan accounts, that are not cleared within 9 months of a limited company‘s year-end (section 455 Corporation Tax Act 2010). The employer’s rate of National Insurance is directly linked to the dividend upper rate. This will mean that section 455 tax will also increase from April 2022, from 32.5% to 33.75%
Director-shareholders of their own limited company, who probably do not currently pay any National Insurance, as their salary is kept below the National Insurance limits, could also be affected. They will not however start to pay National Insurance, or pay the extra 1.25%, unless their salary exceeds the National Insurance Primary Threshold, which is currently £9,568 pa for 2021-22.
Rather than paying more National Insurance, director-shareholders will most probably pay an extra 1.25% on the dividends that they withdraw from their companies, in lieu of their low salaries.
The rate of dividend tax will also increase by 1.25% i.e. to 8.75% (from 7.5%), 33.75% (from 32.5%) and 39.35% (from 38.1%) for basic, higher and additional rate taxpayers respectively.
It can be argued that the extra 1.25% tax on share dividends is unfair on the very same director-shareholders who were not eligible for help during the pandemic based on lost profits and resultant dividends not counting as lost earning under the furlough scheme.
Business owners should therefore considering maximising their company dividends before 5 April 2022 and may wish to deferred higher dividends for three years, when the new levy is due to end.
A basic-rate taxpayer receiving £3,000 of dividends will pay dividend tax on £1,000 meaning that their tax bill will increase from £75 to £87.50.
Similarly, a higher-rate taxpayer receiving £10,000 of dividend will pay 33.75% on £8,000 of dividends. This will result in a dividend tax of £2,700, an increase of £100 compared to the current rules.
Currently, National Insurance is not paid by employees over state pension age on salary or self employment profits. People stop making National Insurance when they reach state retirement age. This rule will remain unchanged.
Whilst there is no employee's National Insurance for those over state retirement age, employers employing pensioners still pay employer's National Insurance. This is currently at the rate of 13.8% on salary over the Secondary Threshold, of £8,840 pa for 2021-22. The rate will increase to 15.05% of salary over the threshold.
National Insurance has never been paid, and will continue not to be paid, on private and state pension income. This will also be the case with the levy. Only income tax is payable on pension income. This will remain the case.
However, from 6 April 2023, the 1.25% levy will apply to employers and employees, including those over state pension age. This may affect around 1 million working pensioners, but only from April 2023. Employers will start to pay 15.05% National Insurance / Levy, on their employees' salaries, over the Secondary Threshold, including for pensioners. However, pensioner employees will only pay the 1.25% levy.
To be clear, pensioners will continue not to pay any National Insurance, but will pay the new levy, on earning over the Primary Threshold, from 6 April 2023.
The self-employed pay Class 2 and Class 4 National Insurance, subject to profit levels.
Self-employed individuals (not through limited companies) in 2021-22 currently pay 9% Class 4 National Insurance on profits over £9,568 and up to £50,270, with an extra 2% on profits over £50,270. These rates will increase to 10.25% and 3.25% respectively in 2022-23. The 1.25% increase will then be collected through the Health and Social Care Levy in 2023-24 and 2024-25, with the Class 4 rates returning to 9% and 2% from 2023-24.
Class 2 National Insurance, in 2021-22, is paid at £3.05 pw, £158.60 pa, if profits are over £6,515 pa. Self-employed individuals can voluntarily pay Class 2 National Insurance as it generates 1 of the 35 qualifying years towards their full state retirement pension.
Whilst Class 2 National Insurance is quoted at a weekly rate, it is paid annually, along with any Class 4 National Insurance, through the Self Assessment tax system. There were no plans to increase Class 2 National Insurance under the proposals.
The rate of Class 2 National Insurance will not be affected by the proposals.
Both director-shareholders and the self-employed will be affected to a very similar extent as employees shown in the table above.
Voluntary National Insurance
Individuals can buy additional qualifying years towards their state pension. Individuals needs 35 qualifying years of National Insurance contributions to receive the full state pension. For every qualifying year lost, through lack of National Insurance contributions, the state pension is reduced by 1/35th. Individuals can pay Voluntary Class 3 National Insurance at £15.40 pw, i.e. £800.80 pa, to buy a missing qualifying year. The full annual amount may not have to be paid. If an individual has 9 months of National Insurance contributions in a year, say through a short-term employment, they only have to top-up their contributions with 12 weeks (3 months) of Class 3 contributions. The rate of Class 3 National Insurance will not be affected by the proposals.