Recording dividends in your accounts is a fairly easy process, but because many companies only declare them once a year people rarely get to experience how the transaction works.
So, to help you with declaring dividends and getting your bookkeeping right, we are looking at:
- What are dividends?
- Making the decision to pay a dividend
- How to show dividends in your accounts
- What you need to do after receiving a dividend
What are dividends?
Dividends are a type of payment that a limited company makes to its shareholders to give them their share of the company’s profits. If you own and operate a limited company, it’s normally more tax efficient to pay yourself a combination of a salary and dividend payments.
How much are dividends?
It depends! Dividends are paid from the company’s profits, and split between the people in the business according to the shareholders’ agreement. This shows how much of the business each shareholder owns, and what that entitles them to.
In most cases limited companies only issue ‘ordinary’ shares, which makes things fairly simple. The directors work out how much profit is left after tax and bills, and use it to ‘declare’ a dividend amount per share. The shareholders then receive their dividends depending on how many shares they own.
For instance, in a company with 100 shares and two shareholders, one owns 70 shares, and the other owns 30 shares. This means that 70% of the dividends paid out go to the person who owns 70% of the company, and so on.
Dividends when there are different types of shares
Some companies can have fairly complex share structures, and use different ‘classes’ of shares which give a variety of rights. Sometimes known as alphabet shares because of how the company records them (A shares, B shares, C shares, etc.) they can offer different things.
For instance, ‘preference’ shares mean the shareholder gets their share of the profit first, before anyone else takes a cut. This might be a percentage of the whole amount, or an amount per share.
Other types of shares might give the holder less power when it comes to voting on things to steer the company. Others again might have a lower value than the ordinary shares, or there might be share classes which use a combination of all of these things.
Be aware that not all shares participate in the profit-sharing rounds. Some companies might have capital only shares that give the right to vote at meetings, or receive a percentage of the sale value, but not the right to a dividend.
The shareholder’s agreement will have all of this information, and make it clear who owns what. It’s good practice to re-check the agreement each time you get ready to declare dividends, to make sure nothing has changed!
Making the decision to pay a dividend
Whilst shareholders own the company, directors manage it, so the process of paying dividends starts with the directors. Even if the sole shareholder and director are the same person!
Dividends are paid out of a company’s profits, but it’s important that the directors leave some money in the company too. It’s the director’s responsibility to make sure that the company can afford the dividends it pays out.
To work out if you have enough profit (called distributable profits), add the current year’s profits to the accumulated profits from previous years. If it is a positive number, then you can normally declare a dividend (but no more than that value).
The company directors must discuss this at a board meeting and agree on the amount per share they are going to pay. This is known as ‘declaring’ a dividend. And yes, even if you’re the only director, you must still hold this ‘meeting’, and record the decision in the minutes!
The company must produce a dividend voucher for each dividend payment it makes, showing:
- The date
- Company name
- Names of the shareholder receiving a dividend
- Amount of the dividend
You’ll need to give a copy to each shareholder.
How often are dividends declared?
There are no rules about how often a company declares or pays dividends, so it could be yearly, monthly, or something else, though consistency is always best!
The important thing is that the company has enough profits to declare the dividend and of course, enough cash to pay them. It would be a pretty poor decision to declare a dividend without having enough cash in the bank to pay it!
What do shareholders need to do if they receive dividends?
It’s down to the shareholder to report their dividend income to HMRC and pay tax on it. Thanks to the dividend allowance you can earn up to £1,000 (in the 2023/24 tax year) from dividends before starting to pay tax on them.
If the dividend is less than £10,000 and you don’t normally fill in a tax return, you can inform HMRC separately by phone or letter. If you normally submit Self Assessment, you can simply include it in that.
Dividend tax 2022/23
The rate of tax for dividends is lower than the income tax rate, and depends on what rate of taxpayer you are.
|Tax band||Tax rate on dividends over the allowance|
Keeping good financial records is essential for helping you report and pay the right amount of tax (and for working out dividend payments!). Learn more about Pandle’s timesaving bookkeeping features, and create your free account.