Court clarifies when “backdated” distribution was in fact made
- Dividends (or “distributions”) can take different forms, including a simple cash payment, the transfer of one or more assets, or the reduction, set-off or extinction of a debt.
- The respective dates on which a dividend is approved and paid can have important consequences, including from a tax perspective.
- Directors of a company should ensure any decision to pay or recommend a dividend is documented through board minutes and appropriate evidence of the date of actual payment.
Manolete Partners plc v Rutter and Rutter  EWHC 2552 (Ch) concerned a company established by a husband and wife that initially traded in electronic hoardings but later ventured into residential property development. The husband and wife were the company’s sole shareholders and directors.
The company created directors’ “loan accounts” for the benefit of its two directors, which operated more in the nature of an overdraft. By July 2015, they were in debit, representing loans owed by the directors to the company.
In July 2016, the directors decided to pay themselves a dividend. That proposal was to set that dividend off against the loans they owed to the company, with the result that no money would transfer and, instead, the directors’ loan accounts would be reduced.
The directors wished to “backdate” the dividend so that it would be effective as from July 2015. The company’s bookkeeper entered the dividend into the company’s accounting system on 12 April 2017 as part of year-end adjustments, reflecting that the dividend was made in July 2015.
The company subsequently entered administration and the question arose: when was the dividend made: July 2015, July 2016 or April 2017?
If the dividend was made in April 2017, it was unlawful, as the company had by then become insolvent, and the director-shareholders would have been liable to repay it. However, if it was made in July 2015 or July 2016, it was lawful (or, at least, not unlawful due to the company’s subsequent insolvency).
What did the court say?
The court found that the dividend had been “paid” (in the sense that the company had made a distribution) when there had been some “positive action which affects the company’s finances in some definite way”.
This happened in July 2016, as it was then that the directors reached their decision to pay the dividend and the transaction was recorded in the company’s accounts (albeit for the company’s 2014/2015 financial year).
The fact that the company’s bookkeeper had recorded the transaction in the company’s internal accounting system in April 2017 was irrelevant. He could have recorded the distribution in July 2016, when it had been made, but he had left it to do later. His actions merely updated the company’s internal system to reflect a dividend that had already been made.
From an evidential point of view, the court found that a record of the dividend in the company’s accounts was more authoritative than a purely administrative adjustment of the company’s non-public ledger made without instruction from its directors.
The court found that it did not matter whether the dividend had been decided and paid as an “interim dividend” or formally declared as a “final dividend”. (For the difference between the two types of dividend, see our previous in-depth piece on Gould v HMRC.)
Either the directors had paid an interim dividend when the record was made in the company’s accounts, or they had formally approved it as shareholders at the time of the decision under the so-called “Duomatic principle”. (For more information on the Duomatic principle, see our previous Corporate Law Update.)
As a result, the court found that the dividend was lawful.
What does this mean for me?
This decision is not surprising, but it is a useful clarification on the timing of dividend payments.
First, and perhaps logically, it is not possible for the directors or shareholders of a company to approve a dividend but deem that dividend to have been paid at some point in the past. Commercial parties cannot alter legal relationships retrospectively.
As the decision shows, there is a distinction between the point at which a distribution is approved and the point at which it is made (or “paid”). A distribution can be made at the point of approval, but equally it can be made at some point afterwards.
A distribution will be made when the directors and/or the company take action to that effect. For a cash-settled dividend, this will usually be obvious: the point at which funds are transferred. Likewise, for a non-cash dividend, this will be the point at which beneficial ownership of the assets in question transfers (which may well be earlier than the point at which legal title changes hands).
Where a dividend is not to be settled by some other means (for example, the extinction of a debt or the set-off of different receivables), this evidence will take different forms. This could be a record of the decision, book entries in the company’s accounts or some other documentary confirmation.
When making a distribution, directors will invariably benefit from ensuring the timing of payment is clear. This is particularly important, as the date of payment can have various consequences, including for tax purposes (see our previous in-depth piece on Gould v HMRC).
There are a few steps to make the timing clear.
- Record the decision to pay a dividend in board minutes (or a directors’ written resolution). If paying an interim dividend, all the minutes need do is record the directors’ decision. If recommending a final dividend, the minutes should note this and resolve to circulate a written resolution to the company’s shareholders or call a general meeting.
- Keep records of the actual payment. For a cash payment, this might include electronic transfer instructions and receipts. For a non-cash transfer, this could include the agreement for sale, assignment documentation or other contractual documentation setting out the transfer. For the waiver or set-off of a debt, this could include updated accounting entries, a set-off agreement or a formal waiver or release of debt (although it is important to seek tax advice on this).
- Reflect the distribution in the next accounts. This will usually be a legal requirement, but reflecting the distribution in the appropriate accounts will provide further evidence of when it was made.