Year 1 client started as a one man band. 9 months in a second shareholder came on board.
It was agreed between the current director shareholder and new director shareholder that a dividend would be declared the day before the new share issue. This agreement was based on the initial director taking no salary and building up the company etc.
The amount has not been paid from the company, but has been credited to the directors loan account which was already in credit.
Having now completed the accounts the balance sheet is negative.
I can't simply ignore the dividend as it was declared and the client has all the paperwork etc.
I understand that this is an "illegal dividend" so how do I deal with? As it was an issued dividend that was credited to the current account does it remain in the accounts with a balance sheet note advising of the divi being in excess of distributable reserves creating the negative balance sheet and that they acknowledge that it is repayable?
Any other suggestions?
Replies (11)
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Slap the client on the wrist
I agree with your analysis.
Your client should be made of the ramifications of their decision should the company become insolvent.
At the same time, stress the importance of making these decisions before taking professional advice.
You don't need to "deal with it" (i.e. the fact of it being illegal) in the accounts at all, and I don't agree that the additional disclosures you are considering are necessary.
Assumption
Is the assumption that there were insufficient funds at the time the dividend was paid a fair one?
Just asking, like.
I agree that lion's point is relevant to the question of whether the dividend was legal at the time it was paid, but the OP's question is largely about how to to deal with it in the accounts. As it is my view that the treatment of illegal dividends in accounts should be identical in every respect with the treatment of legal dividends, I do not see that whether the payment was legal or not is relevant for that purpose.
It is of course relevant to the wrist-slapping that cheeky rightly recommends.
Agree
I agree with that.
I'm also aware that proper provision might not have been made for tax and the dividend may well represent the cash in the bank account at the time. Pure speculation at the moment, I agree.
Out of interest ...
No management accounts were done to the date of the dividend to prove the dividend would have been legal at that time so definitely a wrist slapping.
Just out of interest, how was the quantum of the dividend determined ?
Massive clear out of the bank balance ?
Misread
A credit to the directors current account. Having not consulted us, the director determined on his own back that a dividend of that value should be raised prior to the new investor coming on board to account for the hours and work he had put in to set up and establish the company.
I wasn't asking how it was paid - how did he decide how much he was going to pay ?
I have already given you my opinion that the note you refer to is not necessary. Like I keep saying the supposed illegality of the dividend is not a matter to be dealt with in the accounts at all.
going concern ?
going concern note possibly by you - and/or directors statement q4 less than expected but recovered in current q1 and trading as anticpated/ahead of projections ...
div may well have been up to reserves level at the tim e of new shareholder arrival - so no issu =e with illegal or otherwise if thuis was the case
fact is balance sheet is negative at year end surely so deal with this ? also is the directors loan shown as ciurrent or long TL - is he able to draw it within 12 months or the credited dividend eleement to be due to him over a long term ?