‘It pays Dividends’ or perhaps not!
It has long been the law that dividends can only be paid out of distributable profits. You shouldn’t just declare a dividend without exercising various safeguards.
In ascertaining whether there are distributable profits, directors are required to consider the Company’s professionally prepared accounts.
If the company does not have its first year’s accounts, or it has been some time since the company’s last annual accounts, then the directors in deciding whether to declare a dividend should have regard to professionally prepared initial or interim accounts.
The directors should also have regard to any events that have occurred since the last balance sheet, such as potential litigation (which will require an assessment of the merits of those claims), a fall in the value of the company’s assets, or possibly a change in legislation (i.e. a company’s increased pension liability).
Where dividends are paid, otherwise than out of profits, then should the Company’s fortune falter, the Company, and any subsequent Liquidator, can bring a claim to recover those unlawful dividends. You could end up paying back your salary if you effectively paid your salary by declaring dividends.
It has long been a vexed legal question as to whether a dividend could be set aside by a liquidator, even where the dividends had been lawfully declared by reference to professionally prepared accounts and the requirements of the Companies Act.
The High Court has recently held that a Liquidator of a Company can set aside an otherwise lawful dividend having regard to the provisions of the Companies Act (i.e. paid out of distributable profits) where the purpose of the dividend was to put the assets of the Company beyond the reach of a person who is making, or may make a claim against the Company, or to otherwise prejudice that person’s claim.
The advantage to the Liquidator in bringing a claim that the payment of a dividend was a transaction defrauding creditors, is that the Liquidator will not have to prove that the Company was insolvent or became insolvent as a consequence of the dividend, and nor will claims have to be commenced within restricted time frames.