May 12, 2021

How is the Dividend of a Company to be declared and paid under the Companies Act 2013

1. Meaning of Dividend

Dividend is the portion of the profits of the company which is allocated to the shareholders of that company. The payment of dividend by a company is not obligatory on it but the shareholders can claim right over the dividend if it has been declared.

The dividend of a company has to be declared according to the Section 123 of Companies Act 2013. Recently, with an amendment to Companies (Audit and Auditors) Rules, 2014, it has been made compulsory for the auditor’s report to include comments on whether the dividend was declared or paid in compliance with Section 123 of the Act, in the financial year.

2. Types of Dividend under Company Act 2013

Under the Companies Act, a company can declare or pay two types of dividends:

Final Dividend: Final Dividend is a dividend which is declared by the company in the annual General Meetings, on the recommendation of the Board of Directors. A final dividend once declared by the company in general meetings becomes a debt payable by the company to the shareholders.

Interim Dividend: Interim Dividend is a dividend which is declared by the Board of Directors only. It is generally paid in the middle of the year if the Board of Directors are of the opinion that it should be paid to the shareholders.

3. Calculation of Final Dividend

According to the Section 123 of company Act 2013

Dividend is to be declared by a private company out of the profits of that company in that financial year after deducting the amount of depreciation or out of profits of any previous financial years after deducting the depreciation from the same. Depreciation is the cost of repair or replacement of an asset that has crossed its useful life. The detailed procedure of calculating the depreciation is given under the Schedule 2 of the Companies Act.

Dividend is to be declared by a public company out of the money provided to the company by the Central Government or a State Government for the declaration of dividend.

4. Process of Declaration of Final Dividend

The process of declaration of final dividend goes as follows:

The company in its Board Meeting has to decide the amount of dividend which they want to recommend in the General Meeting.

The company then mentions the resolution for dividend in the notice of the General Meeting.

The company then holds the General Meeting for declaration of dividend.

Once the dividend is declared, it must be paid within 30 days.

5. Process of Declaration of Interim Dividend

The Board of Directors may declare interim dividend during a financial year or at any time during the period from closure of financial year to holding of the annual general meeting, out of the surplus in profit and loss account or out of the profits of that financial year.

Interim dividend cannot be paid out of reserves. It can be paid more than once for a financial year.

However, in case the company has incurred losses during that financial year upto the end of the preceding quarter, the interim dividend should not be declared at a rate higher than the average dividend declared by the company during the last three financial years.

6. Declaration of Dividend when there is an Inadequacy/Absence of Profits

The company may, before declaration of dividend, transfer such percentages of its profit as it may consider appropriate, to the reserves of the company.

In an event where there is inadequacy or absence of profits in a financial year and the company proposes to declare dividend out of accumulated profits earned by it in previous years and from the profits that it has previously transferred to the reserves, such declaration can only be made from the free reserves.

Rule 3 of Companies (Declaration and Payment of Dividend) Rules, 2014 provides for following the conditions in which a company may declare dividend out of free reserves:

Rate of dividend declared should not exceed the average of the rates at which dividend was declared by the company in the last three years. For example, if the average rate of dividend of a company was 23% out of earnings, when declaring dividends from the free reserve, it must not exceed 23%. This condition is not applicable to those companies which have not declared dividend in each of the preceding financial years.

Total amount to be drawn from accumulated profits should not exceed 1/10th of the sum of its paid up share capital and free reserves as provided in the latest audited financial statement. Thus the amount being withdrawn to pay dividends should be less than or equal to 1/10th of the sum of paid up share capital i.e. the amount of money the company received in exchange of shares of stock and the free reserves of the company. If the sum is rs. 5,000,000, the amount withdrawn should not exceed rs. 5,00,000.

Amount drawn should be first utilised for setting off losses incurred in that financial year before any dividend in respect to equity shares is declared.Thus when the amount is withdrawn to pay for dividends, payment of dividend on those shares that are not fixed i.e. equity shares should be on the low priority while the losses incurred should be met first.

Balance of reserves after the withdrawal should not fall below 15% of its paid up share capital as provided in the latest audited financial statement.

7. Separate Bank Account for Dividend

The amount of dividend, including interim dividend, should be deposited in a scheduled bank in a separate account within 5 days from the date of declaration.

The amount of dividend including interim dividend has to be deposited in a separate bank account within five days from the date of such declaration.

Therefore, a company cannot use the amount even upto the period of thirty days and it is obligatory on the part of the company to keep the entire amount of the dividend into a separate bank account, which shall be exclusively utilised for payment of the dividend.

8. Dividend to be paid to a Registered Shareholder only

In respect of shares held in physical form, dividend should be paid by the company to the registered shareholder of such shares or to the person he has asked to or to his banker in the form of cash which may be payable through cheque or warrant or in any electronic mode.

In respect of shares held in electronic form, dividend should be paid to those persons whose names appear as beneficial owners in the statement furnished by the depository as on the close of the market, a day prior to book closure (in case of final dividend) or on the record date (in case of interim dividend).

9. Tax on Dividends

Before the year 2020, Companies were required to pay Dividend Distribution Tax on its declared dividends. Therefore, the receivers were exempted from the tax. However, the Finance Act, 2020, deleted the Dividend Distribution Tax requirement and now:

Shareholders are required to pay tax on the income they receive in the form of dividend.

Companies are required to deduct tax at source (TDS) on the declaration or payment of its dividends.

10. Prohibition on Declaration in case of Default

In case the company fails to comply with the provisions of Section 73 (Acceptance of deposits from public) and Section 74 (Repayment of deposits, etc.), it should not declare any dividends on its equity shares so long as these failures continue. Deposits are a source available to a company to meet its short term or long term financial needs. The company can receive these deposits from the public but Section 73 puts up conditions on companies for accepting these deposits, which includes issuing circular for such deposits, ensuring an insurance on these deposits, providing security for the repayment of the deposits. Section 74 further compels the company to repay the deposits within one year from the dates the payment of deposits is due. If a company fails to comply with one or both of these Sections then it is restricted to declare dividends on the shares that do not have a fixed dividend i.e. equity shares.

11. Failure to Pay Dividends within 30 days

When a dividend has been declared by the company, it is to be paid within 30 days from the date of declaration to every shareholder entitled to the payment.

Where dividend has been declared but not paid within 30 days, every director who is knowingly party to such default is punishable with imprisonment upto 2 years and with fine which is not less than 1,000 rupees for every day during which such default continues. The company is also liable to pay simple interest at the rate of 18% per annum during the period for which such default continues.

12. Exception to this Penalty

No offence would be said to have been committed in the following cases:

Where dividend could not be paid due to the operation of any law;

Where a shareholder has given directions to the company regarding payment of dividend and those directions cannot be complied with and the same has been communicated to him;

Where there is a dispute regarding right to receive the dividend;

Where the dividend has been lawfully adjusted by the company against any sum due to it from the shareholder;

Where, for any other reason, the failure to pay the dividend or to post the warrant within 30 days was not due to any default on the part of the company.

DISCLAIMER: The views expressed are strictly of the author and VJM & Associates LLP. The contents of this article are solely for informational purpose. It does not constitute professional advice or recommendation of firm. Neither the author nor firm and its affiliates accepts any liabilities for any loss or damage of any kind arising out of any information in this article nor for any actions taken in reliance thereon.

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