Dividends Under Companies Act, 2013: Sources, Types & Compliances

1. Dividends refer to the returns given to shareholders out of the profits of the company. These are a form of rewards offered to the shareholders for their investment with the company.

2. Legal framework: Section-123 of Companies Act, 2013 deals with declaration and payment of dividends, Section-124, Section-125 and Section-127 pertain to unpaid dividends, Investors Education and Protection Fund (IEPF) and penalty for failure to distribute dividends respectively. In addition to these, Companies (Declaration and Payment of Dividends) Rules, 2014 governs declaration of dividends in absence of adequate profits and lays down the conditions pertaining to rate of dividends and post withdrawal reserve balance to be maintained.

3. Sources of Dividends: According to Section-123, Dividends can be paid out of-

i) Current profits after providing for depreciation and transferring prescribed percentage of its profit to general reserve.

ii) Past accumulated profits (Reserves) if current year’s profits are not sufficient subject to the following conditions-

a- The rate of dividend should not exceed average rate of the preceding 3 years, and

b- The balance of reserve must be at least 15% of the paid up share capital after such withdrawal.

iii) Government grants i.e. the funds provided by the Central Government for the purpose subject to the conditions as laid down by the Government.

4. Types of Dividends:

i) Interim Dividends are declared between two Annual General Meetings (AGMs), duly approved by the Board of Directors.

ii) Final Dividends are declared at the AGM on recommendation of the Board.

iii) Preferential Dividends or the dividends paid to preference shareholders of the company on priority basis are based on a fixed percentage of the nominal value of preference shares.

5. Procedures for Payment of Dividends and Treatment of Unclaimed Dividend (Section-124):

i) The company needs to operate a separate bank account opened in any schedule bank out of which the dividends are to be paid to the shareholders within a period of 30 days from declaration of dividends.

ii) If the company fails to pay any dividend within a period of 30 days from declaration of such dividends, such amount shall be transferred to a new account called “Unpaid Dividend Account of ………….. Ltd.” within 7 days from completion of 30 days. The dividends shall now be paid out of this new account.

iii) If any amount remains unclaimed for a period of 7 years, such amounts are transferred to Investor’s Education and Protection Fund set up by the Central Government to be utilized for promotion of investors awareness and protection of the interest of the investors.

6. Declaration of Dividends Out of Reserves When Profits are Inadequate:

When profits in a year are inadequate or there is loss, a company can declare dividends out of past accumulated profits or reserves subject to the following conditions:

i) The rate of dividend shall not exceed the average rate of dividend declared during the last three years immediately preceding the current financial year.

ii) The total amount to be drawn from reserves shall not exceed an amount equal to 1/10th of the sum of its paid up capital and free reserves.

iii) The balance of reserves after such withdrawal shall not fall below 15% of its paid up share capital.

The maximum amount of dividends that can be distributed shall be the minimum of the amounts available as per the above three conditions.

Example: Paid up Equity share capital – ₹40,00,000, Free reserves – ₹15,00,000, Current profits – ₹2,50,000, Dividend rates in last 3 years are 11%, 15% and 7%

Condition- (i): Average dividend rate of last 3 years = 33/3= 11%, So, 11% of 40,00,000 =  ₹4,40,000

Condition-(ii) 1/10th or 10% of paid up share capital plus free reserves:

So, 10% of 57,50,000 (40,00,000+15,00,000+2,50,000) = ₹5,75,000

(iii) Minimum 15% balance in Reserve:

Maximum amount of dividend (minimum of the above 3 conditions) = ₹4,40,000

7. Penalty for Failure to Distribute Dividends (Section-127):

If the company fails to pay dividends within a period of 30 days from the declaration of such dividends, the company and the responsible officers attract the following penalties:

i) The company and its directors may be fined ₹1,000 per day for the duration of the default.

ii) The company may be liable to pay interest at 18% p.a. for the duration of the default.

iii) Directors knowingly involved in such default may be imprisoned for up to two years.