Dividend paperwork – the importance of getting it right!

Dividends are a popular way for the owner of an owner managed business to draw monies from the company due to the tax efficiency of dividends.

However, the importance of putting the paperwork in place is often overlooked as some clients (and some accountancy firms) are quite laid back about the importance of preparing the paperwork at the appropriate time. The paperwork that should be in place includes dividend vouchers, dividend waivers (if applicable) and board minutes. In addition, it is important to ensure that if interim dividends are paid that these are allowed by the Articles of Association. As HM Revenue & Customs (HMRC) look to increase revenue (excuse the obvious pun!), they are looking closer at dividends paid by owner managed businesses.

They are looking at:

 

1.      The frequency of dividend payment.

If there is a regular dividend, say monthly or weekly, HMRC may take the view that the dividend is remuneration and attempt to apply PAYE tax and national insurance to the income.

Our advice is to pay a dividend, at most, quarterly, assuming the company has sufficient profits. Rather than pay out the dividend to the director, which could affect the company’s cashflow, we would usually advise for the dividend to be credited to the director’s loan account to which any ‘drawings’ of the director are debited.

 

2.    The legality of the dividend.

A  dividend is distribution of the company’s profit and therefore if the company has no profits it cannot pay a dividend. If a dividend is paid and the company has no profits, the dividend is an “illegal” dividend under company law and HMRC could look to treat the monies as either a loan or as PAYE income. Both have PAYE consequences for the director as well as corporation tax and national insurance implications for the company. In addition, if the company were to enter liquidation, the liquidator has the right to obtain repayment of the illegal dividends from the shareholders.

 

3.   The dividend waiver documentation.

Where spouses hold the same type of shares but either the spouses have different income requirements or one spouse holds less shares than the other, we often see dividend waivers executed giving more dividends to the lower earning spouse who may also hold the lower number of shares. For example, say a husband and wife each own 50% of the ordinary shares in ABC Limited and that the company has profit reserves of £100. It may be that due to the wife’s other income, they wish for the reserves of £100 to be paid to the husband to reduce the family tax position and therefore the documentation is prepared so that the wife waives her right to a dividend and the husband receives £100. Clearly the husband could not have received a £100 dividend, without the waiver being in place and HMRC are likely to try an argue that there is a settlement for income tax purposes and that some of the dividend income should be taxed on the wife. There was a case brought to the courts by HMRC last year similar to the above in which HMRC successfully proved that there was a settlement and increased the income tax bill of the families involved.

 

4.     The payments to minority shareholder.

Where for instance, two or more shareholders hold the same type of shares but different amounts, it is important to ensure that every shareholder receives their share of a dividend, subject to a properly executed dividend waiver and sufficient reserves. There was a case recently where the majority shareholder held 99 shares and the minority shareholder held 1 share. Whilst dividend payments were made to the majority shareholder, the company overlooked the payments to the minority shareholder. HMRC were able to argue that the nature of the payments were remuneration rather than dividend. At Clive Owen LLP we work with our clients to ensure that the paperwork is in place to defend such ‘attacks’ from HMRC. In addition, we will review your remuneration strategy to see which is best suited to your personal and business circumstances. For instance, the company may carry out research and development (R&D) work and thus qualify for additional tax relief. If this is the case, then taking a higher salary may prove to be more tax efficient depending upon the time spent on R&D activities and the income requirements of the director-shareholder.

            If you have any queries, in respect of either dividend paperwork or remuneration strategies, please do call us.