Companies that pay dividends to shareholders must record these transactions in the financial ledgers to be accounted for at the end of the fiscal year for tax purposes. Where does this item go in the ledgers? Are dividends considered an expense for the company? While some may believe that the logical answer is yes, because they are distributed in the form of payments, the dividend classification may surprise you. After extensively researching the question, here is what dividend transactions look like and account for.
How are dividends paid?
Dividends can be paid to shareholders in cash or in shares. An announcement of the dividend is made in advance, then sent in the agreed manner to shareholders on a specified date. This usually happens quarterly or three times a year. Payments are made within 60 days of the announcement. Dividends are not a guaranteed type of payment. Some companies pride themselves on making regular and consistent dividend payments, but some don’t pay dividends every year.
Are dividends considered expenses?
When it comes to recording dividends that are distributed to shareholders in the income statement of a company, they are not included in the expense column. The reason for this is that dividends are simply a reallocation of a company’s retained earnings from common stock. Investors are classified as a reward for participating in the financial support of the company through their investments. While this may seem confusing at first, there are very good explanations why dividend payments cannot be recognized as a business expense. We analyze how accounting and tax professionals view and treat these payments consistent with established laws and regulations.
How are dividends recognized?
Dividends, whether paid in stocks or cash rewards, have no effect on a company’s profits or net income. The payments affect the equity of the shareholders on the balance sheet of the company. Payments reduce the balance of stockholders’ equity. This is the area where dividend payments are recorded. They do not represent an expense.
Where are dividends listed on the financial statement?
Since dividend payments are recognized as a distribution of a company’s equity, they are included on the balance sheet in the equity section. They are subtracted from the cash item on the sheet. When done correctly, it causes the total number on the balance sheet to decrease.
When are dividend payments accounted for?
There may be a 60-day period between when the dividend payment is announced and when it is actually made. Announced dividends are listed in the current liabilities section of the balance sheet. Only dividends that have been paid during the reporting period of this balance sheet are listed as paid. They are recorded as a cash outflow in the statement of cash flows in the financing portion of the balance sheet.
What if dividends are paid in shares?
When dividends are paid to shareholders in the form of shares, they are not yet considered an expense. They are recorded in the equity section of the Balance Sheet as a reallocation of the “additional paid-in capital” and “retained earnings” accounts.
Prepare the books for tax time
Now that we’ve cleared up the issue of dividends and you know they are not considered an expense, there is some more information about dividends that you need to know. When it comes time to prepare the books for tax season, it is important to understand what dividends are, what they are not, and where they fit into the larger framework of the financial accounting process.
Where does dividend income come from?
Dividend income is generated from the company’s net income, but only after all expenses and costs have been deducted from the income. The expense section has already been completed before dividends are considered and acted upon. To break it down more simply, dividend payments are more like sharing company profits with shareholders who invested capital in the money by buying shares. Dividend payments are not a cost of running the business, they are a reward for the good faith of investors. Shareholders, in essence, have become part of the company because of their investment in the interests and promotion of the company. Since dividend payments are possible through earnings, they cannot technically be classified as a business expense. Dividend payments are …