What is a legal dividend?
The Companies Act 2006 sets out what profits are available distribution by dividend and what accounts are required in order to justify a dividend.
If the requirements of the Companies Act are not met a dividend is unlawful. The directors will want to remedy this situation by either making sure that the requirements are met. A member (shareholder) is only required to repay an unlawful distribution if it knows or has reasonable grounds for knowing that it was made unlawfully at the time of payment.
The tax consequences of an unlawful dividend depend on the eventual outcome, this is discussed in our practice note: Unlawful or illegal dividends and tax
The provisions of the Companies Act 2006 are set out from section 830, in summary:
A company may only make a distribution out of profits consisting of:
- accumulated, realised profits, so far as not previously utilised by distribution or capitalisation,
- less its accumulated, realised losses, so far as not previously written off in a reduction or reorganisation of capital duly made.
A distribution is required to be justified by reference to the company’s:
- last annual accounts, or
- interim accounts, or
- where the distribution is proposed to be declared during the company’s first accounting reference period, or before any accounts have been circulated in respect of that period, it may be justified by reference to initial accounts.
Requirements where the last annual accounts are used
The company’s last annual accounts means the company’s individual accounts:
- That were last circulated to members
- Were properly prepared in accordance with the Companies Act 2006
- Unless the company is exempt from audit and the directors take advantage of that exemption, the auditor must have made his report on the accounts.
If the audit report was qualified the auditor must have stated in writing whether in his opinion the matters in respect of which his report is qualified are material for determining whether a distribution would contravene the Companies Act and a copy of that statement must be circulated to members.
Requirements where interim accounts used
Interim accounts must be accounts that enable a reasonable judgment to be made as to the amounts of realised profits and losses.
- Public Limited companies (PLCs) are required to deliver a copy to the registrar.
Requirements where initial accounts used
Initial accounts must be accounts that enable a reasonable judgment to be made as to the amounts of realised profits and losses.
- PLCs require an auditor’s statements and a copy to be filed with the registrar.
Small print
This note summarises the basics of Companies Act 2006 sections 830 to 853. There are additional provisions affecting investment companies and PLCs.
This note is one of a series:
Unlawful or illegal dividends: tax
A guide summarising the different tax charges depending on outcomes following an illegal divdend
Dividends: formalities for companies
A briefing and overview for discussion with directors
Templates:
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