Dividends on Profits Made After FY End

[Shadowhawk]

Hi everyone,

Our consultancy company in our second year of operation, and second FY just ended on 31 Aug 2014.

We normally do a predetermined number of hours of work for a client every month, but because of the client's schedule we didn't do any work in July and August, and instead will make up for that missed work in the last four months of 2014.

Our profits for this past FY are lower than normal because of the missed work, but we'd still like to pay dividends on that profit after we make it over the last four months of the year.

We'll hold our next AGM in Jan 2015 (as our last one was Jan 2014).

So, what's the least painful way to pay dividends with profits that will be made during Sept-Dec 2014, but are not on the books for the FY ending on 31 Aug 2014?

We will be financially solvent even after paying the dividends from the extra profits.

I can think of a few options, but would like to hear your opinions:

1. I read here:

http://forum.singaporeexpats.com/ftopic95607.html

that you can declare a dividend without holding an AGM/EGM if your articles specify so. I looked at ours and I don't think we can do that. I was actually interested to know (for curiosity's sake since it doesn't look to be applicable to us) if that is in fact true. Seems a bit dodgy but I suppose it's the director's responsibilities to ensure that the proposed dividend is appropriate.

2. We can update our accounts to 31 Dec 2014 just before the AGM and present those at the AGM, and declare dividends based on the updated accounts. That means that the accounts presented at the AGM will not be the same as the ones filed with ACRA at FY end. My accountant says that we cannot do this without also changing our FY end to 31 Dec 2014, which is not something we'd like to do. Is my accountant correct?

3. Hold an EGM after the AGM with updated accounts that reflect the Sept-Dec 2014 profits, and declare dividends during the EGM. I think this will likely work, but also requires the most work.

Any input would be appreciated.

Cheers,

Shadowhawk

[Strong Eagle]

The main restriction on the payment of dividends in the Singapore companies act is that you cannot pay dividends from paid up capital. Dividends must be paid from retained earnings and/or current year profits.

You can declare a dividend in a fiscal year without actually paying it. For example, in an EGM, you could declare a dividend payable 31 Aug 2014 (I am assuming that you all can create EGM records prior to 31 Aug without issue as a small privately held firm). Or if you articles of incorporation don't prohibit it, the directors can declare dividends without shareholder approval.

Once you declare dividends, you credit a liability account, "Dividends Payable" and debit a capital account, "Dividends Paid", so that the transaction is reflected on the books. Note that you do not have to have sufficient cash in you cash account to actually pay dividends when you make this transaction.

When you actually pay the dividends in the latter part of the year, you debit Dividends Payable and credit Cash.

Note that dividends are considered paid on the date declared, not actually paid, so there may be tax consequences to those receiving the dividends. Since most people's personal returns are fiscal year end, this may not be an issue. But, circumstances could arise where tax was due even though no monies were received by the shareholder (Note: US tax law treats dividends this way as well).

If you do not have sufficient amounts in your capital accounts to cover the dividends to be paid, the the transaction above will cause your capital account to go negative... in other words, you are paying dividends on profits or retained earnings you don't have.

This will be viewed rather skeptically by ACRA if they take a close look (negative capital accounts are not unusual in and of themselves, only when the negatives result from payment of dividends).

You may be able to offset this odd looking set of circumstances by including an asset account, "Guaranteed Bookings Thru 31 Dec", and an offsetting liability account, "Liability to Perform Guaranteed Work", and recording the amount of income you expect to receive. Then, you provide annotation in your annual report and financial statements to the effect that, "Dividends were declared based upon completion of contract by 31 Aug but client delayed contract completion through end of contract. Stipulated contract amounts remain valid. Thus, dividends have been declared but not paid in FY 2014"... or some such similar verbiage.

What I'm trying to say here is that you cannot retroactively declare dividends in 2014 by having an EGM/AGM in 2015.

[Shadowhawk]

SE, thanks again for an information-packed post.

You can declare a dividend in a fiscal year without actually paying it. For example, in an EGM, you could declare a dividend payable 31 Aug 2014 (I am assuming that you all can create EGM records prior to 31 Aug without issue as a small privately held firm). Or if you articles of incorporation don't prohibit it, the directors can declare dividends without shareholder approval.

I went back and re-read the thread I quoted after reading this statement. It seems I had it wrong: directors can declare dividends without shareholder approval if the articles don't prohibit it. In reading quickly, I thought you meant that the directors cannot declare a dividend without shareholder approval unless your articles allow it.

Big difference, hey?

I took a look at our articles and it doesn't have anything to prohibit this.

Out of curiosity, who enforces the articles of incorporation? For example, if a company declared dividends without shareholder approval, but that is prohibited by the articles of incorporation, would ACRA come knocking and say that that's not allowed? Or are the articles a company's internal set of rules, so if the directors declared dividends but a shareholder didn't want this to happen, he would chime in and say that's not allowed according to the articles, and bring in ACRA if the directors don't withdraw the dividend?

I'm assuming the latter scenario is what would happen.

EDIT: I think I found the clause that allows what you're talking about, SE.

99. The directors may from time to time pay to the members such interim dividends as appear to the directors to be justified by the profits of the company.

[Strong Eagle]

Yes, the companies act allows directors to declare dividends unless expressly prohibited in the articles of incorporation.

Except for certain criminal actions on the part of directors, mostly related to fraudulent activities, and which are defined in the companies act, the affected parties would normally have to seek redress through the civil courts. I don't believe the ACRA would become involved in any dispute. If warranted a disgruntled shareholder, employee, director, or creditor could also approach the criminal courts with evidence of criminal misconduct under the companies act.

With respect to payment of dividends, one first refers to:

157A.—(2) The directors may exercise all the powers of a company except any power that this Act or the memorandum and articles of the company require the company to exercise in general meeting.

What follows after that is a list of actions that require an EGM/AGM and payment of dividends is not in that list.

Section 99 is correct... you can declare dividends at any time. But again, I don't know what happens if your dividend declaration causes your capital account to go negative. Might be worth a call to ACRA to explain your circumstances.

[Shadowhawk]

But again, I don't know what happens if your dividend declaration causes your capital account to go negative.

To avoid this, we could declare the dividend in Jan 2015, and then put it on the books for the FY ending on 31 Aug 2015. The capital account wouldn't go negative for the FY ending in 2014 because no dividend will have been paid during that basis period, and there will be enough profit over the last four months of 2014 to cover the dividend so the capital account will stay positive for the FY ending on 31 Aug 2015.

There shouldn't be any tax consequences for shareholders since they are not taxed on their dividends, anyway. The company may pay a bit more tax because some profits are being shifted from one FY to another (and thus may exceed the start-up tax exemption), but that is unavoidable at this point and will not be affected by when the dividends are declared.

I don't think there are any issues with doing things this way, but is it possible it will look dodgy? I think not - if anything, it looks like the directors are being more fiscally responsible, waiting for profit from the guaranteed bookings to actually materialise before paying out dividends, instead of jumping the gun.

[Strong Eagle]

But again, I don't know what happens if your dividend declaration causes your capital account to go negative.

To avoid this, we could declare the dividend in Jan 2015, and then put it on the books for the FY ending on 31 Aug 2015. The capital account wouldn't go negative for the FY ending in 2014 because no dividend will have been paid during that basis period, and there will be enough profit over the last four months of 2014 to cover the dividend so the capital account will stay positive for the FY ending on 31 Aug 2015.

There shouldn't be any tax consequences for shareholders since they are not taxed on their dividends, anyway. The company may pay a bit more tax because some profits are being shifted from one FY to another (and thus may exceed the start-up tax exemption), but that is unavoidable at this point and will not be affected by when the dividends are declared.

I don't think there are any issues with doing things this way, but is it possible it will look dodgy? I think not - if anything, it looks like the directors are being more fiscally responsible, waiting for profit from the guaranteed bookings to actually materialise before paying out dividends, instead of jumping the gun.

I see no issues at all in proceeding in this manner. In my company, we did not declare dividends (both of us were American and thus dividends were subject to tax at the unearned income rate), but we did declare directors fees.

Our basic operating philosophy was to pay minimal salaries to ourselves (more than enough to max out CPF payments, though), then pay directors fees upon the successful completion of a contract with all receivables converted to cash.

I can't see any reason this would look dodgy. While dividends are normally paid at year end, there is no reason that significant financial change, such as solid profit from a wrapped up contract, could not generate a dividend event.

As I write this, and if the shareholders are also the directors, you might assess tax alternatives instead of paying dividends. Dividends come from profits taxable to the company, directors fees are expenses that reduce profit but are taxable to the director.

We _could_ have eliminated any tax to either the company or the directors through the use of the company exemption and payment of dividends but we decided that in the long term, it was more important to be responsible corporate and individual citizens/PR. I believe it paid off. We were the recipients of significant tax credits during the recession and every EP we ever applied for was approved within days.

[Shadowhawk]

SE, thanks again for the solid advice. If we ever cross paths in real life, the beers are on me.