On a fund tax certificate, equalisation means the portion of your first distribution that is really a return of your own capital, not income the fund earned while you owned it. When you buy units partway through a distribution period, the price you pay already includes income the fund has accumulated. The first payout hands that portion back, and because it was your money to begin with, you don’t pay income tax on it. The equalisation line tells you exactly how much to strip out before reporting dividends or interest to HMRC, and (for income units) how much to knock off your cost base for future capital gains.
Why It Only Shows Up on Your First Distribution
Funds collect income from their underlying investments throughout each distribution period. If you buy in halfway through that period, the share price already reflects weeks or months of accrued income you played no part in earning. Without an adjustment, your first payout would tax you on money you effectively paid for at purchase.
Equalisation splits that first distribution into two parts: the genuine income earned during your ownership, and the capital portion you are getting back. HMRC defines the equalisation amount as “the part of the acquisition price which is attributed to income that has accrued to the fund in the period of account up to the time of the acquisition.”1GOV.UK. Reporting Funds: Reported Income: Equalisation The income portion is taxable. The equalisation portion is not.
Every distribution after the first reflects income earned entirely during your holding period, so the full amount is taxable. If equalisation reappears on a later voucher, that generally means you made an additional purchase between distribution dates, and the rule resets for those new units.
Reporting It on Your Tax Return
The rule is straightforward: leave the equalisation amount out of your dividend income. HMRC’s self-assessment notes say explicitly that you should not include equalisation amounts when entering dividends in box 5 of the SA100.2GOV.UK. SA150 Notes – Self Assessment Tax Return Notes 2026 Only the income figure from your tax voucher goes there.
The dividend income you do report is taxed by band, after your dividend allowance. For 2025–26, the first £500 of dividend income is tax-free. Above that, rates are 8.75% for basic-rate taxpayers, 33.75% for higher-rate, and 39.35% for additional-rate.3GOV.UK. Tax on Dividends Because equalisation is stripped out before you calculate taxable dividends, handling it correctly can keep you inside a lower band.
For the 2025–26 tax year, the paper return deadline is 31 October 2026 and the online deadline is 31 January 2027.4GOV.UK. Self Assessment Tax Returns: Deadlines
Adjusting Your Cost Base for Capital Gains
What you do with the equalisation figure for capital gains depends on whether you hold income units or accumulation units, and this is the point most people get wrong.
With income units (or income shares in an OEIC), distributions are paid to you as cash. The equalisation portion physically comes back into your pocket, so it reduces the amount of capital you have invested. Subtract it from your original purchase price. If you paid £10,000 for income units and the first distribution included £120 of equalisation, your adjusted cost base is £9,880. When you sell, HMRC measures your gain against £9,880, not the original £10,000. Skipping this step overstates your cost base and understates your taxable gain.
Accumulation units work differently. Instead of paying distributions as cash, the fund rolls income back into the unit price. The capital never leaves the fund, so there is no return of capital and no adjustment to your acquisition cost. You still report the income portion of distributions as taxable, but the equalisation figure does not touch your cost base.
If you have made several purchases at different times, each with its own equalisation component, keep a running record. A simple spreadsheet logging purchase date, price paid, equalisation received, and adjusted cost is enough. When you eventually sell, capital gains go on the SA108 supplementary pages.5GOV.UK. Self Assessment Tax Return Forms
What Your Tax Voucher Actually Shows
After each distribution, your fund manager sends a tax voucher (sometimes called a distribution statement). It typically breaks the payment out as:
- Gross distribution per unit: the total amount paid on each unit you hold.
- Income portion: the taxable part, reflecting earnings during your ownership.
- Equalisation per unit: the non-taxable capital return, shown only on your first distribution after purchase.
- Tax credit or tax deducted: any tax already withheld at source, depending on the fund type.
Hold onto the voucher. You need the equalisation figure both to complete your return correctly and to adjust your cost base for later. Under section 12B of the Taxes Management Act 1970, self-assessment records must be kept until at least the fifth anniversary of the 31 January following the relevant tax year.6Legislation.gov.uk. Taxes Management Act 1970 – Section 12B For 2025–26, that means keeping records until at least 31 January 2032. In practice, hold them longer if you still own the units, because you will need them at disposal.
What Happens If You Get It Wrong
Two mistakes run in opposite directions, and both cost you money.
The more common one is including equalisation in your dividend income. You end up paying income tax on a capital return. You can amend a return within the statutory window, but most people never notice the overpayment.
The less obvious error is failing to reduce your cost base on income units. You won’t feel it until you sell, at which point you claim a higher acquisition cost than you are entitled to. That understates your gain and underpays Capital Gains Tax. HMRC can charge penalties for careless errors as a percentage of the underpaid tax, and interest runs on the outstanding balance until it is settled.
Neither mistake is catastrophic on a single small holding. The amounts compound, though, across years and across multiple fund purchases. Clean records from day one are far easier than reconstructing them years later when you’re trying to calculate a gain on disposal.
A Note for US Investors
Equalisation as described here is a UK concept, tied to HMRC reporting. The closest US equivalent is the “nondividend distribution,” reported in Box 3 of Form 1099-DIV.7Internal Revenue Service. About Form 1099-DIV, Dividends and Distributions The idea is the same: it is a return of capital rather than earned income, and it reduces the cost basis of your shares. IRS Publication 550 sets the rule that a nondividend distribution reduces basis and is not taxed until basis has been fully recovered; further distributions after basis reaches zero are treated as capital gains.8Internal Revenue Service. Publication 550 (2025), Investment Income and Expenses If you’re a US investor looking at a UK-style tax certificate, the mechanics on your own return will follow the 1099-DIV, not the SA100.