Background

The main aim of a company is to earn profit. Once reached it, the company will be in a position to re-invest the profits for the purposes of conducting certain business activities or to pay a percentage of the profit as a dividend to the shareholders.

In simple words, a dividend is a return (money) paid to the shareholders for the investment made in the shares of the organization.

There are various types of dividends a company can pay to its shareholders. Below, is a list of the most common:

  • Cash Dividend: is the most popular form which the distribution of funds or money paid on a per-share basis to stockholders.
  • Stock Dividend: in this case, the company gives their investors the option of receiving additional shares as a dividend. These, are paid out pro-rata, based on the number of shares the shareholder already owns.
  • Asset Dividend: a company may also pay out other assets such as investment securities, physical assets, and real estate, although this is not a common practice.

This article focuses on the legal, accounting and tax implications of the cash payment dividends for the companies in Hong Kong.

The distribution of Cash Dividends – Legal implications

The provisions of Part 6 of the Companies Ordinance (Cap. 622) require a company may only make a distribution out of profits available for distribution (s. 297 of Cap. 622) and the company’s articles of association normally set out the requirements of the declaration and payment of dividends.

For example, article 73 of the Model Articles for Private Companies Limited by Shares (Cap. 622H) provides guidelines relating to the procedures for declaring dividends, to name a few which are commonly viewed: “The company may at a general meeting declare dividends, but a dividend must not exceed the amount recommended by the directors”; “The directors may from time to time pay the members interim dividends that appear to the directors to be justified by the profits of the company”; “Unless the members’ resolution to declare or directors’ decision to pay a dividend, or the terms on which shares are issued, specify otherwise, it must be paid by reference to each member’s holding of shares on the date of the resolution or decision to declare or pay it”.  Therefore, when distributing dividends, it is important for the company to always refers to its articles of association regarding procedures and requirements which might be specific for each company.

The distribution of Cash Dividends – Accounting implications

From accounting perspective, it is important to underline that, since dividends are distribution of a corporation’s earnings, they are not reported on the income statement as a cost of the period.

To proceed with the journal entry of the dividends, it is relevant to distinguish:

  1. the date of the declaration of the dividends;
  2. the date of the payment of the dividends;

Declaration date: the journal entry to record the declaration of the cash dividends involves a decrease (debit) to “Retained Earnings” (a stockholders’ equity account) and an increase (credit) to “Cash Dividends Payable” (a liability account).  In other words, there is an immediate decline in the equity section of the balance sheet as soon as the board of directors declares a dividend, even though no cash has yet been paid out.

Payment date: on the date of the payment of the dividends, both the “Cash Dividends Payable” account (with a debit) and the “Cash account” (with a credit) will be reduced. The net effect of these two transactions is to reduce cash and equity, which means that the entire impact of the cash dividend is contained within the balance sheet.

The distribution of Cash Dividends – Tax implications

There is no withholding tax on dividend distributions from a Hong Kong entity to a resident or nonresident.  Dividends paid from profits that already have been subject to Hong Kong tax are not taxable in the hands of shareholders.

 

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Asian Tax Advisory

Marzio Morgante
Chartered Accountant, LL.M.
Managing Partner
Email:  marzio@atatax.hk
Tel: (852) 3102 1995

Erika Mingrino
Head of Accounting, Finance & Reporting
Email:  erika.mingrino@atatax.hk
Tel: (852) 3102 1995

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