Changes to Dividend Payment Rules

The Corporations Act 2001 previously prohibited the payment of dividends other than out of the profits of the company.

Effective from 28 June 2010 a company may now pay a dividend other than out of profits provided certain requirements are met. The changes may permit, for example, start up company or a company impacted by non-cash expenses, to pay a dividend.

The old law that dividends could “only be paid out of profits of the company” has been replaced by a three tiered test. All the elements of the three tiered test must be satisfied before a dividends may be paid.

The new law prohibits the payment of a dividend unless:

1. the company’s assets exceed its liabilities immediately before the dividend is declared and the excess is sufficient for the payment of the dividend

2. the payment of a dividend is fair and reasonable to the company’s shareholders as a whole

3. the payment of the dividend does not materially prejudice the company’s ability to pay its creditors.

The new test raises important practical considerations including:

• The test of whether “assets exceed liabilities”, which is required to be calculated in accordance with accounting standards in force at the relevant time,  may not be easier for smaller companies to apply. Bearing in mind that small proprietary companies are not obliged to prepare accounts in accordance with accounting standards, the question of whether a net asset exists may be difficult to determine.
• Some company constitution may expressly limit the payment of dividend, as per the old law, to only be made out of the profits of the company. If this is the case, the company will either need to amend its constitution to remove this requirement or comply with the profits test and the three new tests for payment of a dividend.
• As with all new laws there is uncertainty by what is meant by “fair and reasonable to the company’s shareholders as a whole.”   

Companies can still deliver a franked dividend meaning shareholders do not have to pay tax on company dividends twice.

For further information, contact your Workplace Advisor.

_{DISCLAIMER – the above is intended to provide general information in summary form. The contents do not constitute specific advice and should not be relied upon as such. Formal specific advice should be sought by members with respect to particular matters before taking action.}