Answers · UK 2025/26
How does dividend reinvestment affect my Capital Gains Tax liability?
When dividends are automatically reinvested to buy more shares or fund units, each reinvestment is treated as a new purchase, adding to your total acquisition cost (base cost) for Capital Gains Tax purposes. This increases your base cost and therefore reduces your eventual taxable gain when you sell — but reinvested dividends outside an ISA or pension are still taxable as dividend income in the year they are paid, even though you never receive the cash.
Full answer
Dividend reinvestment plans (DRIPs) and reinvestment share classes (labelled 'accumulation' or 'inc' funds when automatic within the fund itself) automatically use dividend income to buy additional shares or fund units rather than paying cash out to the investor. This has two separate and easily confused tax consequences outside an ISA or pension. First, for Income Tax purposes, a reinvested dividend is still a dividend that has been paid to you — HMRC treats it exactly the same as a cash dividend for Income Tax purposes, meaning it counts towards your £500 dividend allowance and is taxable at 8.75%, 33.75% or 39.35% depending on your Income Tax band, even though you never actually received cash and it was used to buy more shares instead; many investors are caught out by a Self Assessment or dividend tax bill on income they never saw as cash. Second, for Capital Gains Tax purposes, each reinvestment is treated as a genuine new share purchase at that day's price, which increases your total acquisition cost (or 'base cost') in that holding — so when you eventually sell some or all of the shares, your taxable gain (sale proceeds minus base cost) is correspondingly smaller than it would have been if the base cost only reflected your original lump-sum investment, because the reinvested dividends have effectively already been taxed once as income and should not also inflate your capital gain unnecessarily. Keeping accurate, cumulative records of every reinvestment transaction (date, amount, number of units bought) is essential for correctly calculating your base cost years or decades later when you eventually sell, since underestimating your base cost (by forgetting reinvested dividends) would mean overpaying Capital Gains Tax on the eventual disposal. Holding accumulation funds or DRIP shares within an ISA or SIPP avoids both issues entirely, since neither the reinvested dividend nor the eventual gain is taxable within those wrappers. Use the Dividend Tax and Capital Gains Tax calculators to check your position.
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This answer is informational only and does not constitute financial, tax or legal advice. Figures are for the 2025/26 UK tax year. See our methodology and sources.