Dividend and the company law

With the explosion of private limited companies, particularly one-man bands, extracting profits from companies has become a genuine need for the owners to meet their personal cash flow requirements. Dividend is one of the common ways in which profits could be extracted from a company. As many director-owners tend to pay themselves a monthly dividend it is time the law behind the dividend is understood clearly. Whilst the governing law is the Companies Act 20016 (CA/06) it is equally important that the internal constitution of the company called the Articles of Association of the company (articles) too are looked up when it comes to dividend distributions.
Dividends are paid out of distributable reserves (s.830) which are defined are as the company’s accumulated realised profits less the accumulated realised losses. As the company’s capital is needed to pay off any liabilities due to its creditors, dividends cannot be paid out of capital. Dividends could either be interim dividends paid in-year or final dividends paid after the accounts of the company have been finalised for a particular accounting year. The key provisions contained within CA/06 and the model articles with regard to dividend are as follows:

1.Power to declare dividends vests with the shareholders who may declare dividends by ordinary resolutions. However, the power to declare interim dividends (i.e. those typically taken out on a monthly basis by the contracting community) is delegated to the directors who will need to ensure that the interim dividends are based on interim accounts drawn up in accordance with the relevant accounting standards. The directors must ensure that there are sufficient distributable surplus available at the time of declaration. The shareholders may resolve to reduce the dividend recommended by the directors but they cannot increase the sum of dividend recommended by the directors.

2.Eligible members: Dividend is paid to those shareholders whose names appear on the register of members as on the date the dividend becomes due and payable.

3.Illegal dividends: Where the dividends are not paid in accordance with provisions of the CA/06, these are called illegal dividends. An example is where a dividend has been paid in excess of the available surplus. In such situations the directors will be held liable. Whilst there are no criminal sanctions for payment of illegal dividends, If at the time of the distribution the member knows or has reasonable grounds for believing that it is so made, he is liable to repay it (or that part of it, as the case may be) to the company (s.847).

That said, briefly the procedure for declaring and paying the dividends are as follows:
1.Check that there are no restrictive clauses within the Articles

2.Pass a board resolution if an interim dividend to be declared, and a shareholders resolution in the case of a final dividend. Either way written resolutions are acceptable

3.Prepare dividend tax vouchers: This is the official document that provides the details of the dividend received by a shareholder and is a valid document when it comes his personal tax affairs.

4.Whilst preparing the dividend tax voucher one must check the number of shareholders listed on the register of members and the number of shares held by each of them on the date dividend is due (called the record date).

5.Dividend wavers: It is common for some shareholders to waive their entitlement to receive dividends. This must be checked to ensure that dividends are not paid to those who have waived their rights.

Once the dividends payments have been made adequate accounting entries will need to be posted to the accounts. It is common for director shareholders to have the dividend sum credited to the director’s loan account whereas for a shareholder the sum could be credited to ‘dividend payable account’.

Small Business Accountants