Can I base my dividend on invoices?

Contractor's Question: Is it acceptable for my limited company to pay a dividend at a rate which would not leave enough cash to cover my current corporation tax liability, but which would be covered by my outstanding invoices, which I have no reason to doubt will be paid well before the tax is payable?

Expert's Answer: The restriction on the payment of dividends is not driven by the cash in the company, but by company law and the accounting concept of "distributable reserves".

Distributable reserves are normally the accumulated retained profit in the company which has not yet been distributed and is shown at the bottom of the balance sheet in the annual accounts that you prepare for the company. If you want to pay a dividend on a date other than the date your accounts are prepared, then you need to be satisfied that there are sufficient reserves at that date to fund the dividend. So you should consider the profitability of the company from the last accounting date and what that means for the company's reserves.

If a dividend is paid without there being sufficient reserves to fund it and the company fails to pay its debts as they fall due, a liquidator could seek to force you to repay the dividend, especially if it can be shown that you should have known there were insufficient reserves at the date the dividend was paid.

In your circumstances, you have a reasonable belief that the company will have the cash to fund its debts when they fall due. So provided that the distributable reserves of the company are at least equal to the dividend you want to pay, there should be no problem in paying it.

The expert was Tim Stovold, tax partner at Kingston Smith LLP.
 

Tuesday 6th Apr 2010