Dividend Declaration and Payment are essential aspects of corporate finance, enabling companies to distribute a portion of their profits to shareholders as a reward for their investment. In India, the Companies Act, 2013 governs the declaration and payment of dividends to ensure transparency, protect shareholder interests, and uphold compliance standards. Here’s a comprehensive guide on the processes, conditions, and compliance requirements for dividend declaration and payment.

1. Types of Dividends

• Final Dividend: Declared at the company’s Annual General Meeting (AGM) based on the annual profits after considering the company’s financial position. Shareholders must approve it before payment.
• Interim Dividend: Declared by the Board of Directors during the financial year before the AGM. It is based on profits generated within the ongoing fiscal year and does not require shareholder approval, only board authorization.

2. Legal Provisions and Compliance for Dividend Declaration

Under the Companies Act, 2013, specific provisions guide how dividends should be declared, the sources from which they can be paid, and the rules governing distribution.

• Eligibility and Profitability Requirement:
  • Dividends can only be declared out of the company’s current profits or the accumulated profits of previous years after setting aside depreciation.
  • Dividends should not be declared out of capital reserves or borrowed funds to protect the company’s capital base.
• Mandatory Reserve Requirement:
  • Companies may transfer a portion of profits to reserves before declaring dividends, depending on their financial policies or the Companies Act requirements.
• Depreciation and Provision for Losses:
  • Companies must account for depreciation and provision for potential losses before declaring dividends, ensuring that the payout does not impact the company’s financial stability.

3. Procedure for Declaring Dividends

A. Declaration of Final Dividend

1. Board Meeting:
   • The Board of Directors reviews the financial performance, considering profits, accumulated reserves, and depreciation.
   • A recommendation for dividend declaration is made based on profitability and liquidity.
2. Shareholder Approval at AGM:
   • The proposed final dividend is presented to shareholders at the AGM.
   • Shareholders vote to approve or modify the dividend recommendation. The final dividend cannot exceed the amount recommended by the board but may be reduced.
3. Payment Timeline:
   • Once declared, the final dividend must be paid within 30 days of declaration to all eligible shareholders listed on the record date.

B. Declaration of Interim Dividend

1. Board Meeting and Approval:
   • The Board of Directors can declare an interim dividend based on financial performance during the fiscal year, typically after reviewing the quarterly or half-yearly financial results.
   • No shareholder approval is required for interim dividends, only board approval.
2. Payment Timeline:
   • The interim dividend must also be paid within 30 days of declaration.

4. Sources of Dividend Payment

• Current Year Profits: Dividends are generally paid out of the company’s current year profits after accounting for depreciation and other statutory expenses.
• Accumulated Profits (Free Reserves): If current year profits are insufficient, dividends may be paid from retained earnings (free reserves) accumulated in previous years.
• Special Cases (Section 123 of the Companies Act, 2013):
  • With prior government approval and following specific conditions, companies can pay dividends from accumulated reserves if profits are inadequate.

5. Process of Dividend Payment

Once a dividend is declared, the company must ensure timely payment to eligible shareholders and follow procedural compliance:

1. Fixing the Record Date:
   • The Board of Directors sets a record date for determining eligible shareholders who will receive the dividend. This helps in clarifying entitlement, especially in the case of interim dividends or when shares are frequently traded.
2. Payment Mode:
   • Dividends are paid directly into shareholders’ bank accounts (preferable for listed companies) or through dividend warrants or cheques for other shareholders.
   • Digital and electronic payment methods are encouraged to ensure prompt delivery.
3. Deposit in a Separate Bank Account:
   • Companies must transfer the total dividend amount to a separate bank account within 5 days of declaration to ensure funds are allocated for distribution.

6. Dividend Distribution Tax (DDT) and Tax Implications

As of April 1, 2020, Dividend Distribution Tax (DDT) has been abolished. Previously, companies were required to pay DDT before distributing dividends to shareholders. Now, dividends are taxed in the hands of shareholders as per their individual tax slab rates.

• TDS Deduction:
  • Companies must deduct TDS (Tax Deducted at Source) on dividends paid to shareholders if the annual dividend exceeds ₹5,000.
  • TDS is generally deducted at 10% for resident shareholders and at applicable rates for non-resident shareholders, subject to Double Taxation Avoidance Agreement (DTAA) provisions.

7. Compliance Requirements

The Companies Act, 2013 requires adherence to certain compliance procedures for dividend declaration and payment, ensuring transparency and accountability.

• Declaration and Filing Requirements:
  • The company must document the declaration in board or AGM minutes.
  • Dividend payments and TDS deductions are recorded and reported in the company’s books and reported in the annual return.
• Unpaid Dividend Account (Section 124):
  • If shareholders do not claim their dividend within 30 days, the amount must be transferred to an Unpaid Dividend Account within seven days after the 30-day period expires.
  • Companies must file Form IEPF-2 (Investor Education and Protection Fund) each year, detailing any unclaimed dividends, which are ultimately transferred to the Investor Education and Protection Fund (IEPF) after seven years if unclaimed.
• Investor Education and Protection Fund (IEPF):
  • Unclaimed dividends, shares, and debentures held for seven years must be transferred to the IEPF.
  • Shareholders can reclaim their dividends or shares from the IEPF by submitting relevant proof through the prescribed process.

8. Penalties for Non-Compliance

Failure to comply with the dividend declaration and payment requirements under the Companies Act, 2013 can result in penalties.

• Late Payment Penalties:
  • If a company fails to pay the declared dividend within the prescribed 30-day period, it faces a penalty of 18% per annum on the amount unpaid.
  • The company and every responsible officer may face penalties, which may include fines and even imprisonment for willful non-compliance.
• Improper Declaration or Payment:
  • If dividends are paid in contravention of the Companies Act (e.g., using capital reserves), directors may be personally liable for repayment, and the company may face additional penalties.

9. Rights of Shareholders Regarding Dividends

Shareholders have specific rights concerning dividend payments:

• Right to Dividend: Shareholders have a legal right to dividends once declared. However, if the company chooses not to declare dividends in a given year, shareholders cannot demand them.
• Right to Information: Shareholders are entitled to information about the company’s financial health and decisions regarding dividend declaration.
• Claiming Unpaid Dividends: Shareholders can claim unpaid or unclaimed dividends from the Unpaid Dividend Account within seven years, after which they must approach the IEPF to reclaim it.

10. Dividend Policy and Corporate Governance

A company’s dividend policy is a part of its broader corporate governance framework, reflecting its approach to profit distribution and shareholder value.

• Stable Dividend Policy: Companies with a stable dividend policy pay dividends consistently, promoting investor confidence.
• Flexible Dividend Policy: Companies with cyclical earnings may choose a flexible dividend policy, adjusting payouts based on financial performance.
• Retention vs. Distribution: Companies may retain a portion of profits for reinvestment into the business, balancing growth opportunities and shareholder returns.
• Disclosure Requirements: Public companies are encouraged to disclose their dividend policy in annual reports, ensuring shareholders are informed about the company’s approach to dividends.

Conclusion

Dividend declaration and payment is a structured process governed by the Companies Act, 2013 to protect shareholder interests and maintain corporate integrity. By adhering to compliance requirements, companies ensure transparency and fulfill their responsibilities to shareholders. The abolition of DDT has changed the tax implications, shifting the tax burden to shareholders based on their tax slabs.

Understanding the rules for dividend declaration and payment helps companies foster good corporate governance practices and maintain strong relationships with shareholders.