Directors can take dividends if there are sufficient profits to cover them. Where low funds or a negative cash flow won’t allow it, doing so would create an ‘unlawful dividend’.

When can I take out lawful dividends?

Directors should take dividends only when the company is solvent, where it can pay its liabilities as and when they fall due.

If the following apply to a company, it could be insolvent:

• The company cannot pay its liabilities when they fall due.
• The company’s liabilities exceed the value of its assets.
• Creditors have filed legal action against the company. This could include County Court Judgments (CCJs), statutory demands, or a winding-up petition.

What makes an unlawful dividend?

A dividend can be considered unlawful if taken in the following circumstances:

• There are insufficient profits to justify a dividend.
• Profits have been miscalculated.
• Incomplete board meeting minutes and poor record keeping.
• Incomplete dividend vouchers.
• Backdating authorisation for dividends already issued.

What are the consequences of unlawful dividends?

The Companies Act 2006 stipulates that a recipient of an unlawful dividend may be required to repay it. This could include company shareholders if they knew the dividend was outside the company’s affordability. If said shareholder is also a company director, it will be difficult to prove they lacked knowledge of the company’s financial standing.

Directors who authorised an unlawful dividend may be in breach of their directorial duties and may be held liable.

Additionally, HMRC might deem the dividend as ‘salary’ and pursue the recipient for National Insurance and income tax.

How can directors ensure a dividend is lawful?

Directors can ensure an issued dividend is lawful by taking the following action:

• Ensure the company has sufficient distributable profits
  Without these, a dividend would be unlawful. Keeping up-to-date interim accounts on top of the statutory accounts for the previous period can provide a clearer picture as to whether the company can afford a dividend.
• Conduct a meeting with the company’s board
  A board meeting can help determine if the company has enough profit to justify the dividend. The board can declare the dividend if it’s feasible. Ensure meeting minutes are kept for submission to HMRC.
• Seek professional advice
  Speak to your accountant before declaring a dividend. Doing so will ensure you have the right figures and avoid the risk of issuing an unlawful dividend.

What happens to unlawful dividends in insolvency?

Unlawful dividends can become problematic if the company becomes insolvent, including the risk of directors being held personally liable.

If the company can’t repay its liabilities as and when they fall due, you should speak to a licensed insolvency practitioner (IP). As part of their role, an IP will analyse transactions and director conduct in the period leading to the company becoming insolvent. During this time, they may identify transactions, including any unlawful dividends.

A director’s responsibility to an insolvent company

As a director, you should always be aware of your company’s solvent position and ensure it can cover all its current and upcoming outgoings. If you find any evidence to the contrary, you should contact a licensed insolvency practitioner.

Failing to act in the company’s best interests can lead to accusations of trading whilst insolvent and even wrongful trading, which could leave you personally liable for the company’s debts.

Options available when a company is insolvent

If your company is insolvent, it’s important you take the necessary action to deal with it and minimise the potential longer-lasting damage. Contact our initial advice team for free, impartial, confidential advice with no obligation.

Depending on your circumstances, your options may include:

• Repaying in affordable instalments
  Company Voluntary Arrangements (CVA) are formal repayment arrangements for companies that could be viable were it not for the debts. We will assess the company’s cash flow, calculate its monthly affordability and, if viable, propose an arrangement to creditors. These arrangements include all the company’s unsecured debts.
  More on Company Voluntary Arrangements
• Restructuring through administration
  In some circumstances, the company would benefit more from restructuring. Administration offers directors protection from creditor pressure while the insolvency practitioner restructures the company to attempt to rescue it as a going concern and return it to a profitable state, making it more appealing to potential buyers.
  More on administration
• Continue the business in a new, separate limited company
  A pre-pack liquidation is a commonly used, informal term where a newly formed company purchases the assets of an existing company, which is then liquidated.
  More on pre-pack liquidation
• Closing through liquidation
  Sometimes a company’s debt can be so severe that recovery isn’t possible, and the directors would be better off closing and walking away. The insolvency practitioner may suggest the company enters Creditors Voluntary Liquidation (CVL). This closes the insolvent company and writes off its unsecured debts.
  More on Creditors Voluntary Liquidation

How we can help

If you’re a director concerned that you may have issued unlawful dividends or that your company is facing insolvency, it’s essential that you seek advice and take appropriate action as soon as possible. Contact our initial advisors. We can discuss your company’s solvent position and advise you of the options best suited to its circumstances.

1. Speak with our initial advisers via phone or online chat. If we can help, we will arrange a free consultation with one of our consultants to discuss your situation in more depth.
2. During the consultation, we will advise if an insolvency procedure is the most appropriate route forward or what alternative options are available.
3. After your consultation, if there is an appropriate route forward, we will issue the relevant documentation for you to formally engage us.

In summary

An unlawful dividend can arise in several situations. One is if the company lacks sufficient funds to cover the cost or isn’t issued with the correct documentation, such as completed vouchers and board meetings. A company’s inability to pay dividends can indicate insolvency, wherein unlawful dividends can become problematic. You should seek professional advice from a licensed insolvency practitioner to tackle the insolvency and ensure they act in the company’s best interests.

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