Declaration and Payment of Dividend

In one line

A dividend may be paid only out of profits, must be put in a separate bank account within five days, must reach the shareholder within thirty days, and if it is not claimed for seven years it stops being his and goes to a government fund.

In exam wording: section 123(1) permits a dividend to be declared or paid only out of the profits of the company for that year after providing for depreciation, or out of undistributed profits of previous years, or out of both, or out of money provided by a Government for a guaranteed dividend; section 124 requires unpaid dividend to be moved to an Unpaid Dividend Account and, after seven years, to the Investor Education and Protection Fund under section 125; and section 127 punishes failure to pay within thirty days.

Why the law has this at all

A dividend is the one moment when money leaves the company and goes to the members. Everybody else with a claim on the company, every creditor, every employee, every depositor, is worse off by exactly that amount.

So the Act does two things.

It controls the source. Dividend comes out of profits, never out of capital. That is the maintenance of capital principle in its most direct application, and the provisos to section 123(1) close the obvious routes around it: no dividend out of unrealised or notional gains or revaluation, none out of reserves other than free reserves, and none at all until carried-forward losses and unprovided depreciation have been set off.

It controls the delivery. A declared dividend is a debt owed to the shareholder, and a company that declares one and keeps the money is using its members' money as working capital. Hence the five days to put it in a separate account, the thirty days to pay it, and the eighteen per cent interest and imprisonment in section 127.

And the seven year rule answers what to do with money nobody claims. It cannot stay with the company forever, because that would reward the company for not finding the shareholder. It goes to a fund that exists to educate and protect investors generally.

Some words this chapter uses

A dividend includes an interim dividend, by section 2(35). Free reserves are defined in section 2(43) as reserves available for distribution as dividend. Unrealised gains are increases in value not yet turned into money. An interim dividend is one declared by the Board between annual general meetings. A warrant is the instrument by which a dividend is paid. The Fund is the Investor Education and Protection Fund under section 125.