Tax and Insolvency Litigation Solicitor

Illegal Dividends

It is very common for the directors of small businesses to take their remuneration in the form of drawings from the Company rather than wages or salary, thereby saving National Insurance.

This is however an approach not without its risks. If the Company was to go into insolvency a Liquidator may ask that the director repay these sums. It is essential that the director gets it right as there can be little room for error.

When drawings are taken from a Company by a director it will create a debit in a Directors Loan Account. This creates a debt obligation from the director to the Company.

The debt is often extinguished when the director declares a dividend arising from the profits of the Company.

However, in the following circumstances the dividend may be found to be unlawfully declared –

  • The Company did not have sufficient distributable profits to permit a dividend to be made
  • The administrative formalities associated with declaring a dividend have not been complied with

It is often the first job of a Liquidator to check what monies a former director has taken from the Company to ascertain whether claims can be made against the former directors. Liquidators can and do request that former directors pay over even relatively small amounts of drawings allegedly made unlawfully.

If a challenge is received from a Liquidator in relation to payments they allege to be unlawful dividends the following should be considered –

  • What paperwork exists to support and explain the transactions in dispute?
  • Did the Company make sufficient distributable profits? On what basis can you conclude this?
  • Were the dividends declared at the time they were paid or at a later time?
  • What documents exist to show the declaration?
  • Is the declaration consistent with the Articles of Association of the Company?
  • Why is documentation not within the possession of the Liquidator?

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