Your quick guide to dividends: avoiding the pitfalls

As an entrepreneur, understanding the financial dynamics of your business is crucial. Dividends, a common financial aspect, may seem confusing but are integral to your financial planning. So, let’s demystify dividends together.

What Are Dividends?

Dividends are a portion of your business profits that you distribute to shareholders, potentially including yourself. They’re essentially a reward for investment in the business. However, there are rules to follow, and simply withdrawing money and labelling it as a dividend doesn’t make it one.

Legal vs Unlawful Dividends: What’s the Difference?

So, what makes a dividend legal or unlawful? A legal dividend is one that is paid out from the company’s ‘distributable profits,’ i.e., the profits left after paying tax and all business expenses. These dividends must be declared by the directors and distributed according to the proportion of company shares each shareholder owns.

On the other hand, an unlawful or illegal dividend is declared when a company doesn’t have sufficient distributable profits to cover the dividend amount. Simply put, if you’re giving out more money as dividends than your company has made in profit, those are illegal dividends.

Can a Company Declare a Dividend and Not Pay It?

A company can indeed declare a dividend and choose not to pay it immediately. However, once a final dividend is declared, it becomes a legal debt owed by the company to the shareholders. It must be paid unless the company goes into liquidation.

Is an Unlawful Dividend Void?

An unlawful dividend isn’t necessarily void but can lead to serious consequences. These dividends can be reclaimed from shareholders, and directors may be held personally liable to repay the amounts to the company.

The Consequences of Illegal Dividends

Issuing illegal dividends can lead to a range of issues. The directors can be held personally liable to repay those amounts back to the company. From a tax perspective, HMRC may treat illegal dividends as salary, which could result in additional income tax and National Insurance contributions. Beyond these legal and financial implications, the issuance of illegal dividends could damage your company’s reputation.

How We Can Help

At D&K Accounting, we’re about more than just “doing the accounts.” We’re your partners, implementing the Profit First strategy and leveraging the power of QuickBooks to simplify financial management. We aim to empower you, the business owner, to understand your finances. That way you can focus on achieving your dreams and ambitions.

Ready to gain clarity on dividends and how to manage them effectively? We’re here to help! Book an initial chat with us here, and let’s start turning your business dreams into reality.

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