A company can pay dividends to its shareholders at any time as a reward for investing in the business and as a way of distributing company profits. Because of the way that they are awarded, however, many directors unknowingly pay illegal dividends.
How are dividends paid?
Two key rules determine how a dividend is paid:
- A company’s board of directors must vote to approve the dividend, deciding who will receive a payment, what the amount will be and when it will be paid
- Dividends are paid using a company’s accumulated profit and loss reserves
What is an illegal dividend?
The voting of illegal dividends occurs more often than people think. Typically, by directors making decisions to pay dividends without having an informed view of the company financial position.
Dividends paid in excess of the accumulated profit and loss reserves of the business would be deemed an illegal dividend.
Who is responsible for illegal dividend payments?
HMRC would hold the directors fully responsible for any decisions made and it would be hard to prove that you were not aware that the dividend was illegal at the time it was voted.
The best preventative method is to prepare regular management accounts, giving you an accurate representation of the company’s financial position.
What can I do if I’ve inadvertently paid an illegal dividend?
Declaring an illegal dividend is not a criminal act in itself. However, any attempt to rectify the situation, for example backdating dividend vouchers, calculations, board minutes or other relevant documents, would certainly be considered a criminal offence under the Companies Act.
Where directors need to borrow money from their business for personal reasons, you can end up with an overdrawn Director’s Loan Account. See our article here about the tax consequences of overdrawn Director’s Loan Accounts.
To discuss the payment of dividends in more detail or find out how Champion can assist with your management accounts, contact Joshua Morris at joshua.morris@championgroup.co.uk or call 0161 703 2500.
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