© 2025 by Michael Firth KC, Gray's Inn Tax Chambers
Contact: michael.firth@taxbar.com
Distributions and dividends
IDENTIFYING DISTRIBUTIONS
- Every description of a distribution of a company's assets to its members
"(1) In this Part “distribution” means every description of distribution of a company's assets to its members, whether in cash or otherwise, subject to the following exceptions." (CA 2006, s.829)
Company law purposes in general
- Not every transfer of value is a distribution
"[24] The essential issue then, is how the sale by PPC of its shareholding in YMS is to be characterised. That is how it was put by Sir Owen Dixon CJ in Davis Investments Pty Ltd v Commissioner of Stamp Duties (New South Wales) (1958) 100 CLR 392, 406 (a case about a company reorganisation effected at book value in which the High Court of Australia were divided on what was ultimately an issue of construction on a stamp duty statute). The same expression was used by Buxton LJ in MacPherson v European Strategic Bureau Ltd [2000] 2 BCLC 683, para 59. The deputy judge did not ask himself (or answer) that precise question. But he did (at paras 39-41) roundly reject the submission made on behalf of PPC that there is an unlawful return of capital "whenever the company has entered into a transaction with a shareholder which results in a transfer of value not covered by distributable profits, and regardless of the purpose of the transaction". A relentlessly objective rule of that sort would be oppressive and unworkable. It would tend to cast doubt on any transaction between a company and a shareholder, even if negotiated at arm's length and in perfect good faith, whenever the company proved, with hindsight, to have got significantly the worse of the transaction.
...
[27] If there were a stark choice between a subjective and an objective approach, the least unsatisfactory choice would be to opt for the latter. But in cases of this sort the court's real task is to inquire into the true purpose and substance of the impugned transaction. That calls for an investigation of all the relevant facts, which sometimes include the state of mind of the human beings who are orchestrating the corporate activity.
[28] Sometimes their states of mind are totally irrelevant. A distribution described as a dividend but actually paid out of capital is unlawful, however technical the error and however well-meaning the directors who paid it. The same is true of a payment which is on analysis the equivalent of a dividend, such as the unusual cases (mentioned by Dr Micheler) of In re Walters' Deed of Guarantee [1933] Ch 321 (claim by guarantor of preference dividends) and Barclays Bank plc v British & Commonwealth Holdings plc [1996] 1 BCLC 1 (claim for damages for contractual breach of scheme for redemption of shares). Where there is a challenge to the propriety of a director's remuneration the test is objective (Halt Garage), but probably subject in practice to what has been called, in a recent Scottish case, a "margin of appreciation": Clydebank Football Club Ltd v Steedman 2002 SLT 109, para 76 (discussed further below). If a controlling shareholder simply treats a company as his own property, as the domineering master-builder did in In re George Newman & Co Ltd [1895] 1 Ch 674, his state of mind (and that of his fellow-directors) is irrelevant. It does not matter whether they were consciously in breach of duty, or just woefully ignorant of their duties. What they do is enough by itself to establish the unlawful character of the transaction.
[29] The participants' subjective intentions are however sometimes relevant, and a distribution disguised as an arm's length commercial transaction is the paradigm example. If a company sells to a shareholder at a low value assets which are difficult to value precisely, but which are potentially very valuable, the transaction may call for close scrutiny, and the company's financial position, and the actual motives and intentions of the directors, will be highly relevant. There may be questions to be asked as to whether the company was under financial pressure compelling it to sell at an inopportune time, as to what advice was taken, how the market was tested, and how the terms of the deal were negotiated. If the conclusion is that it was a genuine arm's length transaction then it will stand, even if it may, with hindsight, appear to have been a bad bargain. If it was an improper attempt to extract value by the pretence of an arm's length sale, it will be held unlawful. But either conclusion will depend on a realistic assessment of all the relevant facts, not simply a retrospective valuation exercise in isolation from all other inquiries.
[30] Pretence is often a badge of a bad conscience. Any attempt to dress up a transaction as something different from what it is is likely to provoke suspicion. In Aveling Barford there were suspicious factors, such as Dr Lee's surprising evidence that he was ignorant of the Humberts' valuation, and the dubious authenticity of the "overage" document. But in the end the disparity between the valuations and the sale price of the land was sufficient, by itself, to satisfy Hoffmann J that the transaction could not stand." (Progress Property Company Ltd v. Moorgarth Group Ltd [2010] UKSC 55, Lord Walker)
"[76] It is also clear, in my view, that a mere arithmetical difference between the consideration given for the asset or assets and the figure or figures at which it or they are in subsequent proceedings valued retrospectively will not of itself mean that there has been a distribution. If the transaction is genuinely conceived of and effected as an exchange for value and the difference ultimately found does not reflect a payment 'manifestly beyond any possible justifiable reward for that in respect of which allegedly it is paid', does not give rise to an exchange 'at a gross undervalue' and is not otherwise unreasonably large, there will not to any extent be a 'dressed up return of capital'. In assessing the adequacy of the consideration, a margin of appreciation may properly be allowed.
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[79] It is plain, in my view, that directors are liable only if it is established that in effecting the unlawful distribution they were in breach of their fiduciary duties (or possibly of contractual obligations, though that does not arise in the present case). Whether or not they were so in breach will involve consideration not only of whether or not the directors knew at the time that what they were doing was unlawful but also of their state of knowledge at that time of the material facts. In reviewing the then authorities Vaughan Williams J in Re Kingston Cotton Mill Co (No 2) said at [1896] 1 Ch, p347: 'In no one of [the cases cited] can I find that directors were held liable unless the payments were made with actual knowledge that the funds of the company were being misappropriated or with knowledge of the facts that established the misappropriation.' Although this case went to the Court of Appeal, this aspect of the decision was not quarrelled with (see [1896] 2 Ch 279)" (Clydebank Football Club Ltd v Steedman 2002 SLT 109, Lord Hamilton; approved in Progress Property at §32)
- Setting off dividend declared against director's loan account is a distribution
"[99] I summarised my reasons above that the 'positive action which affects the Company's finances in some definite way' was the decision in July 2016 not just to declare a dividend of £560,000, but to allocate it to reduce the balance of the directors' loan account, at that stage almost £700,000, and record that in the 2014-15 accounts, I shall call by the neutral word 'transaction' (which a dividend can be: Sequana CA). In my judgment, in July 2016, even before the entry was made on Sage in April 2017, that transaction was a 'distribution' both under s.829 CA and in common law, for five alternative reasons:..." (Manolete Partners Plc v. Rutter [2022] EWHC 2552 (Ch), HHJ Tindal)
- Distribution is made at time of accounting transaction
"[107] Ultimately, a 'distribution' by actual transfer of assets (e.g. a bank transfer from a company's bank account to a shareholder's bank account) happens on a particular day. Likewise, where a 'distribution' is by 'accounting transaction', it should happen on the date that happens. If there is a choice of date between earlier statutory accounts where the 'distribution' of dividend and offset on liability are recorded as happening (indeed as having happened retrospectively); and a later internal journal entry where only one side is recorded, objectively and rationally, the date of the formal accounts must be the date of 'distribution'. This is especially as s.829(1) CA applies to 'every description of distribution of a company's assets to its members, whether in cash or otherwise'. Therefore, objectively, in substance, the date of 'distribution' here was 29th July 2016." (Manolete Partners Plc v. Rutter [2022] EWHC 2552 (Ch), HHJ Tindal)
- Company law definition must include legally ineffective transactions otherwise it would be circular
"[101.2] As to legally-effective transactions, again this would go against the ordinary meaning of the words Parliament has used in s.829. As Buckley observes, s.829 gives a wide meaning of 'distribution' including 'every description of distribution ….whether in cash or otherwise' which is a 'distribution' of the company's assets to its members. The statutory phrase 'every description of distribution' contradicts any limitation to 'only legally-effective distributions'. Nor does the word 'distribution' carry any requirement of being itself 'legally-effective'. It is a 'factual word', not a legal term of art like 'sale', 'disposition' of 'gift'. Of course, 'distributions' can consist of or include legal transactions (see e.g. s.845 CA), but there is no suggestion in the wording of s.829 (or for that matter, s.845 CA) that they must do so. Indeed, as discussed in Sequana, in law a dividend is given for no consideration (although not a 'gift') and may be unilateral. Yet surely a 'dividend' is the paradigm example of a 'distribution' in s.829 CA. It is also difficult to understand why Parliament would have intended to include within s.829 CA legally-effective transactions such as undervalue sales of company assets to shareholders and require them to be 'lawful' under the detailed rules of Part 23, but to exempt legally-ineffective factual transfers or payments. It would undermine the purpose of the actual provisions to regulate all 'distributions' and indeed be inconsistent with the words of s.829: 'every description of distribution'.
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[108.3] This interpretation of s.329 CA both in isolation and in context is also consistent with the statutory purpose of Part 23 CA in general and of the wide scope of 'distribution' in s.329 in particular. The reason Parliament intended a wide meaning to 'distribution' is obvious: it is to ensure the net is cast wide over 'distributions' so that more transactions are regulated by Part 23 and to reduce the scope for avoidance of it. As the cases suggest, many transactions may practically 'distribute' company assets to members but be structured in a way to disguise that, such as the 'management charge' on the subsidiary which otherwise had no liability to pay its parent in SSF, or the suspicious sale at an undervalue in Satyam (if not the unwise but genuine one in Moore). This is the reason why, as emphasised in Moore, the focus must be on the substance rather than just the form of transaction. However, that does not mean that the form of the transaction is irrelevant. If it takes the form of a dividend allocated by shareholder-directors to reduce their directors' loan and that is recorded in the company accounts, unless it is not genuine in substance, that is a 'distribution' even without further action, even if no money changes hands and it has no legal effect. After all, it still has practical implications: directors' understanding of their debt and further borrowing; and the company's distributable reserves, solvency, liquidation etc. It is also consistent with the statutory purpose if this is a 'distribution' in s.829 CA. Director-shareholders wishing to reduce loan liability to the company have an incentive to use dividends to do so. Indeed, it is more likely now after s.197 Companies Act 2006 made directors' loans lawful if authorised by ordinary resolution. To allow director-shareholders to argue that the use of a dividend to reduce their loan liability as recorded in the statutory accounts did not amount to a 'distribution' because it was not recorded in management accounts would create a lacuna in the coverage of Part 23 CA. It would undermine the protection it offers to the company and indeed to creditors; and create confusion on how much the directors actually still owe to the company. Indeed, a wide approach to 'distribution' is consistent with Part 23's statutory purpose and indeed fair. Just because a transaction amounts to a 'distribution' does not mean it is unlawful. Lawfulness is assessed by reference to 'relevant accounts' under ss.836-8 and individuals' knowledge under s.847 CA. If I may be permitted a florid metaphor, Parliament was obviously content to cast the net wide over 'distributions' in the knowledge that the holes in it are big enough to let the little fish swim free." (Manolete Partners Plc v. Rutter [2022] EWHC 2552 (Ch), HHJ Tindal)
- Reclassification of payments to EBT as unlawful distribution
"[6] In 2017 the Supreme Court (RFC 2012 plc (in liquidation) (formerly Rangers Football Club Plc) v Advocate General for Scotland [2017] 1 WLR 2767) found that money paid into an employment benefit trust was intended to operate to give each employee access to the use of the money paid into the principal trust. The money was to be treated as employee's remuneration for employment, and subject to tax. The employer company should have made the necessary deductions to pay the Revenue. In this case the Joint Liquidators ask the Court to look at the position from the point of view of the Company. The distributable reserves were stripped out and paid to employment benefit trusts (and later an interest in possession fund) for the purpose of making tax free payments to the shareholders who were also employees. The payments received by the Respondents and Mr Flanagan were calculated by dividing the capital paid out of the Company, to match the number of shares each of them held.
[7] In my judgment although the payments of the Company's capital were made to the Respondents via a trust or interest in possession fund, they were in substance distributions. Due to a failure to comply with the statutory code they constitute unlawful distributions and are void. Later payments totalling £70,000 made to the shareholders in 2013 also constituted unlawful distributions. One shareholder and employee, Mr Flanagan, received £30,000 in expenses in March 2013. Such payments were made at a time when the Company was insolvent, and in breach of directors' duties." (Re Implement Consulting Limited [2019] EWHC 2855 (Ch), ICCJ Briggs)
Exclusions from general company law meaning
- Loan to parent company, left outstanding, not a distribution
"[24] At the end of his long judgment, Anderson J concluded [Record pp526-527] that the loans were not genuine loans within section 35 of the Income Tax Act, and that they were distributions within section 34. If necessary he would have held that the transactions were artificial. Mr McCall does not seek to support his first ground of decision, but does support the alternative ground based on section 16.
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[26]...(5) The group structure was not, as the judge seems to have been suggesting, a reason for treating the loans as artificial. It was, on the contrary, the commercial context in which there was nothing abnormal or artificial in the loans being unsecured, interest-free, and documented only by normal accounting and auditing processes. Had the CCJ been a wholly-owned subsidiary of Carreras throughout the relevant period the conclusion that the loans were not artificial would have been clear and irresistible. It would have been a paradigm case of a loan which, although not on commercial terms if looked at in isolation, falls squarely within proviso (i) to section 35(1) of the Income Tax Act. Any element of bounty in the transaction would have remained within the reach of Jamaican corporate taxation.
[27] In fact, as already explained, there is some reason to suppose that during the 1990s the Board of CCJ paid insufficient attention to the interests of a small and diminishing number of minority shareholders. But in the Board's opinion that cannot make artificial what would otherwise have been standard practice in corporate group structures throughout the world. There was no artifice in this apparent error. On such evidence as there is it seems to have been an oversight, and not part of a plan." (Commissioner of Taxpayer Audit v. Cigarette Company of Jamaica Limited [2012] UKPC 9)
- Bonus shares
"(2) The following are not distributions for the purposes of this Part—
(a) an issue of shares as fully or partly paid bonus shares;
[...]" (CA 2006, s.829)
- Reduction of share capital
"(2) The following are not distributions for the purposes of this Part—
[...]
(b) the reduction of share capital—
(i) by extinguishing or reducing the liability of any of the members on any of the company's shares in respect of share capital not paid up, or
(ii) by repaying paid-up share capital;..." (CA 2006, s.829)
- Redemption/purchase of own shares out of capital
"(2) The following are not distributions for the purposes of this Part—
[...]
(c) the redemption or purchase of any of the company's own shares out of capital (including the proceeds of any fresh issue of shares) or out of unrealised profits in accordance with Chapter 3, 4 or 5 of Part 18..." (CA 2006, s.829)
PROCEDURE
- Distribution on a winding up
"(2) The following are not distributions for the purposes of this Part—
[...]
(d) a distribution of assets to members of the company on its winding up." (CA 2006, s.829)
- Sums paid in advance of expectation of declaring dividends not dividends
"[28] [28] The contention put shortly on behalf of Mr Larkin is that there had been an agreement between him and Mr Feeny from the beginning that they would draw such money as they thought fit and as they needed, and would declare dividends from time to time after the event in order to set off against the liability to repay the amount of the dividend to which they would then be entitled. The evidence also indicates that there was at the year end in December 1999 some £270,000 by way of profits available for distribution by way of dividend. But what is not acceptable is the evidence of Mr Larkin to the effect that the amounts he drew were justified from time to time when drawn by the then profits available to the company for distribution by way of dividend. We were shown the amounts drawn in January and February 1999 by way of example. In each case there were substantial sums drawn and in each case the management accounts indicated that in that month substantial losses had been incurred. It is simply not the case, therefore, that sums of money were withdrawn from time to time in recognition of profits made during the same period." (First Global Media Limited v. Larkin [2003] EWCA Civ 1765)
"[38] First, these payments were not dividends. They derived from no recognisable statutory procedure for the declaration either of final or of interim dividends."(First Global Media Limited v. Larkin [2003] EWCA Civ 1765)
Article of association requirements
- No particular formality required re director recommendation (sufficient all directors concurred or acquiesced)
"[165] It is important to distinguish this complaint – which relates solely to whether there was in fact any decision to recommend a dividend – from the question whether the statutory requirements of Part VIII of the 1985 Act were complied with (which I consider below). The distinction is important because in asking whether directors in fact reached a determination, no particular formality is required. For a determination by directors to be effective, it is sufficient that by the time of the Distribution all the directors had in fact concurred or informally acquiesced in it: see Runciman v Walter Runciman [1992] BCLC 1084, per Simon Brown J at p.1092c-d..." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
- Presumption that proceedings at meeting duly took place
"[173] I agree with the defendants that the correct starting point is s.249 of the 2006 Act, which provides that minutes recorded in accordance with s.248 purporting to be authenticated by the chairman of the meeting are evidence of the proceedings at the meeting and that where minutes have been made in accordance with that section then, until the contrary is proved, the meeting is deemed duly held and convened, and all proceedings at the meeting are deemed to have duly taken place (and that the onus is on those wishing to displace the minutes to overturn the presumption: Sneddon v MacCallum [2011] CSOH 59). It is therefore for the claimants to displace the presumption that the meeting was duly convened and that the proceedings recorded in the minutes took place." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
- Sole shareholder can force dividend by ordinary resolution and override requirement for director recommendation
"[171] In any event, the proviso in article 102 that the company by ordinary resolution could not declare a dividend in a sum greater than that recommended by the directors was one which could be waived by all the shareholders acting unanimously, on the Duomatic principle, named after the decision in Re Duomatic Ltd [1969] 2 Ch 365. The sole shareholder, BHUH, is to be taken to have done so when it resolved to declare the dividend in specie of the share in Vital." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
"[42] In this case, the Articles of Association of the subsidiary (WMF) incorporated Regulation 102 in Table A which states that "… the company may by ordinary resolution declare dividends in accordance with the respective rights of the members, but no dividend shall exceed the amount recommended by the directors" (although this Regulation is the provisions of the Companies Act 2006, there was no submission that any provisions restricting payment of dividends applied to WMF in this case).
[43] HMRC contended that this meant that WMGH as sole shareholder could have compelled, by means of an ordinary resolution, WMF to declare dividends: although the regulation is subject to a directors' recommendation as to quantum, the Appellants were the majority of the directors of WMF. Further, they contended that WMGH as sole shareholder could rely upon the Duomatic principles (set out in In re Duomatic Ltd [1969] 2 Ch 365, although dating from much earlier) that the informal approval of all the members of a company is sufficient to ratify a breach of fiduciary duty
[44] The High Court in In re Burnden Holdings (UK) Ltd (in liquidation) [2019] EWHC 1566 (Ch) specifically stated that "the proviso in paragraph 102 that the company by ordinary resolution could not declare a dividend in a sum greater than that recommended by the directors was one which could be waived by all the shareholders acting unanimously, on the Duomatic principle".
...
[48]...I agree with HMRC's contentions regarding the interaction of the Articles of Association of [Subsidiary] and the Duomatic principle: the distributable reserves of [Subsidiary] were amounts which were available to [Parent] at the time of the transaction. The fact that [Parent] would have had to resolve, as sole shareholder of [Subsidiary], that a dividend to be paid to it and also resolve to waive the restriction in regulation 102 does not mean that these were not assets available to it. Those actions were entirely within [Parent]'s control without a third party's involvement and so, in my view, the distributable reserves of [Subsidiary] were amounts available to [Parent] for distribution by way of dividend." (Oscroft v. HMRC [2026] UKFTT 251 (TC), Judge Fairpo)
Common law requirements
- Distributions must not be made out of capital
"[26] Before the Companies Act 1980, the legality of dividends was determined by common law rules. Many of those rules were superseded by the statutory provisions but section 851(1) of the Companies Act 2006, re-enacting earlier provisions to the same effect, provides that "the provisions of this Part are without prejudice to any rule of law restricting the sums out of which, or the cases in which, a distribution may be made". The most important of these rules of law is that a distribution to shareholders must not be made out of capital, established by the decision of the House of Lords in Trevor v Whitworth (1887) 12 App Cas 409. The continued relevance and application of this rule was demonstrated by the decision of Hoffmann J in Aveling Barford Ltd v Perion Ltd [1989] BCLC 626. In the present case, the claimants accepted that their pleaded claim for breach of common law rules added nothing to their claims that the dividends contravened Part 23." (BTI 2014 LLC v. Sequana SA [2019] EWCA Civ 112)
Statutory requirements
- No waiver of statutory requirements
"[165]...In relation to the requirements under Part VIII of the 1985 Act on the other hand, such as the need for relevant accounts establishing sufficient distributable profits, strict compliance is necessary and it is not possible to waive the requirement, for example where it is established that relevant accounts could have been prepared demonstrating sufficient distributable profits: see Bairstow v Queens Moat House [2002] BCC 91, per Robert Walker LJ at [36]." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
- Only out of accumulated, realised profits available for the purpose
"(1) A company may only make a distribution out of profits available for the purpose." (CA 2006, s.830)
Accumulated, realised profits, not previously distributed
"(2) A company's profits available for distribution are its accumulated, realised profits, so far as not previously utilised by distribution or capitalisation, less its accumulated, realised losses, so far as not previously written off in a reduction or reorganisation of capital duly made.
(3) Subsection (2) has effect subject to sections 832, 833A and 835 (investment companies and Solvency 2 insurance companies." (CA 2006, s.830)
Investment companies: distributions out of accumulated revenue profits
See CA 2006, s.832 onwards.
- Profit includes capital profits
"(2)References to profit or losses of any description—
(a)are to profits or losses of that description made at any time, and
(b)except where the context otherwise requires, are to profits or losses of a revenue or capital character." (CA 2006, s.853)
- Realised profits: GAAP
"(4) References to “realised profits” and “realised losses”, in relation to a company's accounts, are to such profits or losses of the company as fall to be treated as realised in accordance with principles generally accepted at the time when the accounts are prepared, with respect to the determination for accounting purposes of realised profits or losses.
(5) Subsection (4) is without prejudice to—
(a) the construction of any other expression (where appropriate) by reference to accepted accounting principles or practice, or
(b) any specific provision for the treatment of profits or losses of any description as realised." (CA 2006, s.853)
- Public company: additional net asset restriction
"(1) A public company may only make a distribution—
(a) if the amount of its net assets is not less than the aggregate of its called-up share capital and undistributable reserves, and
(b) if, and to the extent that, the distribution does not reduce the amount of those assets to less than that aggregate.
[...]
(5) A public company must not include any uncalled share capital as an asset in any accounts relevant for purposes of this section.
(6) Subsection (1) has effect subject to sections 832 and 835 (investment companies etc: distributions out of accumulated revenue profits)." (CA 2006, s.831)
Net assets
"(2) For this purpose a company's “net assets” means the aggregate of the company's assets less the aggregate of its liabilities.
(3) “Liabilities” here includes—
(a) where the relevant accounts are Companies Act accounts, provisions of a kind specified for the purposes of this subsection by regulations under section 396;
(b) where the relevant accounts are IAS accounts, provisions of any kind." (CA 2006, s.831)
Undistributable reserves
(4) A company's undistributable reserves are—
(a) its share premium account;
(b) its capital redemption reserve;
(c) the amount by which its accumulated, unrealised profits (so far as not previously utilised by capitalisation) exceed its accumulated, unrealised losses (so far as not previously written off in a reduction or reorganisation of capital duly made);
(d) any other reserve that the company is prohibited from distributing—
(i) by any enactment (other than one contained in this Part), or
(ii) by its articles.
The reference in paragraph (c) to capitalisation does not include a transfer of profits of the company to its capital redemption reserve." (CA 2006, s.831)
- Distributions must be supported by relevant accounts
"(1) Whether a distribution may be made by a company without contravening this Part is determined by reference to the following items as stated in the relevant accounts—
(a) profits, losses, assets and liabilities;
(b) provisions of the following kinds—
(i) where the relevant accounts are Companies Act accounts, provisions of a kind specified for the purposes of this subsection by regulations under section 396;
(ii) where the relevant accounts are IAS accounts, provisions of any kind;
(c) share capital and reserves (including undistributable reserves)." (CA 2006, s.836)
Aggregate successive distributions based on same accounts
"(1) In determining whether a proposed distribution may be made by a company in a case where—
(a) one or more previous distributions have been made in pursuance of a determination made by reference to the same relevant accounts, or
(b) relevant financial assistance has been given, or other relevant payments have been made, since those accounts were prepared,
the provisions of this Part apply as if the amount of the proposed distribution was increased by the amount of the previous distributions, financial assistance and other payments.
(2) The financial assistance and other payments that are relevant for this purpose are—
(a) financial assistance lawfully given by the company out of its distributable profits;
(b) financial assistance given by the company in contravention of section 678 or 679 (prohibited financial assistance) in a case where the giving of that assistance reduces the company's net assets or increases its net liabilities;
(c) payments made by the company in respect of the purchase by it of shares in the company, except a payment lawfully made otherwise than out of distributable profits;
(d) payments of any description specified in section 705 (payments apart from purchase price of shares to be made out of distributable profits).
(3) In this section “financial assistance” has the same meaning as in Chapter 2 of Part 18 (see section 677)." (CA 2006, s.840)
- Relevant accounts: last accounts or interim accounts
"(2) The relevant accounts are the company's last annual accounts, except that—
(a) where the distribution would be found to contravene this Part by reference to the company's last annual accounts, it may be justified by reference to interim accounts, and
(b) where the distribution is proposed to be declared during the company's first accounting reference period, or before any accounts have been circulated in respect of that period, it may be justified by reference to initial accounts.
(3) The requirements of—
section 837 (as regards the company's last annual accounts),
section 838 (as regards interim accounts), and
section 839 (as regards initial accounts),
must be complied with, as and where applicable.
(4) If any applicable requirement of those sections is not complied with, the accounts may not be relied on for the purposes of this Part and the distribution is accordingly treated as contravening this Part." (CA 2006, s.836)
- Last accounts (properly prepared on material matters)
"(1)The company's last annual accounts means the company's individual accounts—
(a)that were last circulated to members in accordance with section 423 (duty to circulate copies of annual accounts and reports), or
[(b) deleted]
(2) The accounts must have been properly prepared in accordance with this Act, or have been so prepared subject only to matters that are not material for determining (by reference to the items mentioned in section 836(1)) whether the distribution would contravene this Part." (CA 2006, s.837)
Audited
"(3) Unless the company is exempt from audit and the directors take advantage of that exemption, the auditor must have made his report on the accounts.
(4) If that report was qualified—
(a) the auditor must have stated in writing (either at the time of his report or subsequently) whether in his opinion the matters in respect of which his report is qualified are material for determining whether a distribution would contravene this Part, and
(b) a copy of that statement must—
(i) in the case of a private company, have been circulated to members in accordance with section 423, or
(ii) in the case of a public company, have been laid before the company in general meeting.
(5) An auditor's statement is sufficient for the purposes of a distribution if it relates to distributions of a description that includes the distribution in question, even if at the time of the statement it had not been proposed." (CA 2006, s.837)
- Interim accounts (accounts that enable a reasonable judgment)
"(1) Interim accounts must be accounts that enable a reasonable judgment to be made as to the amounts of the items mentioned in section 836(1)." (CA 2006, s.838)
Distribution by public company (additional requirements)
"(2) Where interim accounts are prepared for a proposed distribution by a public company, the following requirements apply.
(3) The accounts must have been properly prepared, or have been so prepared subject to matters that are not material for determining (by reference to the items mentioned in section 836(1)) whether the distribution would contravene this Part.
(4) “Properly prepared” means prepared in accordance with sections 395 to 397 (requirements for company individual accounts), applying those requirements with such modifications as are necessary because the accounts are prepared otherwise than in respect of an accounting reference period.
(5) The balance sheet comprised in the accounts must have been signed in accordance with section 414.
(6) A copy of the accounts must have been delivered to the registrar.
Any requirement of Part 35 of this Act as to the delivery of a certified translation into English of any document forming part of the accounts must also have been met." (CA 2006, s.838)
- Interim accounts need not be formally adopted
"[166] The claimants submit that the following are requirements of the 1985 Act, which must be strictly complied with: that the directors hold a meeting to recommend the dividend; that the relevant accounts are the company's accounts, in the sense of being adopted by the company, and that the directors actively give consideration to the relevant accounts in order to conclude that there are sufficient distributable profits to enable the dividend to be declared.
[167] I reject these submissions. There is no express reference to any of these matters in Part VIII of the 1985 Act. For private companies the requirements are stated in the passive: the amount of the distribution which may be made "is determined by reference" to matters as stated in the company's accounts; and where interim accounts are used, they must be such as are "necessary to enable a reasonable judgment to be made". The reference to the "company's accounts" does not impose any requirement, in relation to interim accounts, that they be laid before the company, whether through its directors or in a general meeting. It merely denotes that they must be accounts relating to the company. This contrasts with the requirements relating to annual accounts, which must have been "laid" in respect of the last preceding accounting reference period." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
- Not a statutory condition that directors consider accounts and actively determine realisable profits
"[168] I accept that s.263(5), in permitting "the directors", in certain circumstances, to treat a profit (or loss) made before 22 December 1980 as realised (or unrealised), contemplates that it will be the directors that make the determination as to available profits. That is not the same thing, however, as imposing a mandatory requirement, in order for a dividend to be lawfully declared by a private company, that directors actively reach a determination as to the amount of realisable profits. Of course, that is not to deny that it is important for directors actively to consider whether the company has sufficient distributable reserves, or to ensure that there are accounts that comply with the requirements of Part VIII and properly consider them, because, if they fail to do so and the requirements of Part VIII are in fact not met, then it is likely to be difficult for the directors to escape personal liability." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
Interim accounts: form and detail
- Sufficient to enable reasonable judgment: based on facts reasonably perceived after reasonable inquiry
"[189] The question as to what constitutes a "reasonable judgment" was explained in Re Paycheck Services 3 Ltd [2009] Bus LR 1, per Mark Cawson QC, at [197] (a decision which was overturned, on other grounds, in the Court of Appeal, itself upheld on a further appeal to the House of Lords):
"I consider that the references in section 270(4) and paragraph 89 of Schedule 4 to the 1985 Act to "reasonable judgment" and to "reasonably necessary" point against an intention to render a dividend unlawful if it is only with hindsight that it can properly be said that provision ought to have been made for a particular liability. In my judgment, what the relevant provisions require is the making of a reasonable judgment based on facts as reasonably perceived, or that would have been ascertained by reasonable inquiry. Thus, for example, if there was no reasonable means of knowing that a debt was a bad debt (eg because it was reasonably not known that the debtor was insolvent) then it does not seem to me that the relevant provisions intended to, or did in fact provide, that a dividend paid in these circumstances was unlawful. However, the necessary consequence of Mr Green's argument is that it would be."
[190] He continued, at [198]:
"Further, in relation to liabilities of the kind specified in paragraph 89 of Schedule 4 to the 1985 Act, I consider that, based on the language thereof read together with that of section 270(4) of the 1985 Act, there is only a requirement to make provision for the purposes of the "interim accounts" if, on a reasonably objective view of the facts as known or reasonably ascertainable by those taking the decision to pay the dividend, the liability is likely (in the sense of being more likely than not) to be incurred." " (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
- Degree of detail and formality required will depend on context
"[194] I agree with the FTT that the degree of detail and formality required will depend on the context. In the present case, the context includes that BHUK was a non-trading holding company, whose assets consisted mostly of investments in subsidiaries, and whose liabilities were mostly to its shareholders or subsidiary companies. By its nature, therefore, it was to be expected that its management accounts would be relatively simple. The context also includes the fact that the audience was the directors, who were already familiar with the format in which the management accounts were presented, and what lay behind them, having been presented on many previous occasions with monthly management accounts which were, like the Interim Accounts, derived from the Navision accounting software used by the company.
[195] In my judgment, the level of detail in the Interim Accounts was sufficient to satisfy the requirements of s.270(4) on the facts of this case." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
- Justification for figures may be contained in external papers
"[193] The Interim Accounts did, on their face, record the assets, liabilities, profits and losses, share capital and reserves of BHUK. They indicated distributable profits of £804,243.31, plus a revaluation reserve of £9.73 million consequent upon the revaluation of Vital. I do not regard the fact that the justification for these figures was to be found in other documents (for example, cash flow forecasts of subsidiary companies justifying a particular carrying value for the investment in them, or debts due from them) as a reason for concluding that the Interim Accounts were deficient. Even if it is necessary for the accounts to be contained in a single document (which I do not accept is necessary in all circumstances), that would not preclude supporting material being found in other documents." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
- Accounting records not sufficient
"[63]...We find that VP did fail to comply with section 270 CA85 and, as a result, VPT did not acquire a valid entitlement to call for a conveyance to it of the Property. We consider that section 270 CA85, properly interpreted in context, requires the production of an identifiable contemporaneous single document which records the required items under section 270(2) CA85. The degree of detail and formality of that document may vary, depending on the context, but a single document is, in our view, required in all cases. We draw a clear distinction between a company's accounting records (which will be used in preparation of accounts) and its accounts (which are compiled from those records, on the basis of judgments made by the directors). We are satisfied that in the present case, no accounts (within the meaning of section 270 CA85) were prepared and therefore the Dividend was unlawful under section 263 CA85. It follows that VPT never became entitled to call for a conveyance of the Property as a result of the declaration of the Dividend." (Vardy Properties v. HMRC [2012] UKFTT 564 (TC), Judge Poole)
- Mistakes relevant if they would affect judgment on availability of profits for distribution
"[200] The question is whether the fact of such misdescription (ascribing an asset as the value of shares in, or a debt due from, X, when it should have been Y) means by itself that the accounts do not comply with s.270(4). In my judgment, it does not, for two reasons. First, had the accounts been statutory accounts the individual items under the headings "investments in subsidiary companies" and "debts due from subsidiary companies" would not have been set out. All that would have appeared would have been aggregate figures for both. A fortiori the aggregate figures are sufficient to enable a reasonable judgment to be made as to the assets, liabilities etc of the company. Second, the purpose of having accounts which enable a reasonable judgment to be formed as to the assets, liabilities etc of the company, is so that a determination can be made as to whether a dividend would be paid out of profits and as to whether it would render the company insolvent. For that purpose it is sufficient that the aggregate figures for debts due from subsidiaries and investments in subsidiaries are identified." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J - see conclusion on various challenges at §272)
DEBT AND PAYMENT
Creation of a debt
- Declaration of final dividend creates immediate debt
"[37] Further, it is clear that in the case of a final dividend, the declaration of a dividend by the company in general meeting gives rise to a debt payable by the company to shareholders." (HMRC v. Gould [2024] UKUT 285 (TCC), Judge Cannan and Judge Tilakapala)
- Interim dividend usually does not create debt prior to payment
"[22] In Lagunas Nitrate Company Ltd v Schroeder and Co and Schmidt (1901) 85 LT 122, the directors resolved to pay an interim dividend. Shortly afterwards, in light of pending litigation, the directors resolved to postpone payment of the interim dividend. Joyce J noted that Lindley on Company Law and Buckley on the Companies Acts stated that “where a dividend is declared it becomes a debt due from the company to the shareholders”. However, he distinguished the declaration of a dividend and a resolution for payment of an interim dividend. He held that prior to payment of an interim dividend, the company was not obliged to pay it. The directors could reconsider whether it ought to be paid at all." (HMRC v. Gould [2024] UKUT 285 (TCC), Judge Cannan and Judge Tilakapala)
"The significance of this in present context is that a final dividend which has been properly declared and which does not specify a date for payment creates an immediately enforceable debt. If a final dividend is declared under the terms of a resolution that states that it is payable on a future date (a fairly common occurrence for quoted companies) then the debt is enforceable, and the dividend is due and payable, only on that later date. An interim dividend, on the other hand, may be varied or rescinded at any time before payment and may therefore only be regarded as due and payable when it is actually paid. The Potel case contains a clear exposition of this point at page 669." (CTM15205)
- Interim dividend usually does create debt once paid to one shareholder
"[39]...We see no reason to distinguish between final dividends and interim dividends at the stage where the directors have not only resolved to pay a dividend but have also made payment to some but not all of the shareholders. If a shareholder is not paid their share of an interim dividend then a debt arises at the time the other shareholders are paid. That must follow from the principle that shares of the same class confer the same rights and impose the same liabilities." (HMRC v. Gould [2024] UKUT 285 (TCC), Judge Cannan and Judge Tilakapala)
- Subject to agreement to the contrary
"[72] Overall, we consider that the FTT did not err in failing to specify what amendment was being made to the articles. The FTT specified the amendment at [100] and [101] of the Decision. Further, the FTT was entitled to find that the members intended to informally amend the articles even though they did not have the articles in mind when agreeing the terms on which the interim dividend would be paid." (HMRC v. Gould [2024] UKUT 285 (TCC), Judge Cannan and Judge Tilakapala)
- Or subject to binding waiver by the shareholder
"[86] The parties’ arguments on waiver before the FTT focussed on whether there was consideration for such a waiver. [The taxpayer] submitted that the waiver agreement occurred before NG was paid his dividend and therefore before any debt could have arisen. The waiver was supported by consideration in that the directors of Regis agreed to pay an interim dividend and PG agreed to waive his right to enforce payment.
...
[94] We are satisfied that the FTT was right to find that the agreement it had identified did not fall within the principle of Foakes v Beer. That is because PG’s waiver of the right to enforce the debt was agreed before the directors resolved to pay the interim dividend. In those circumstances, we do not accept Mr Bradley’s submission that there was no consideration. PG agreed to waive his right to enforce payment of a dividend until after 5 April 2016 if Regis agreed to pay the interim dividend. At the time of that agreement there was no enforceable debt. It is not the case of an existing creditor agreeing to give up an entitlement to be paid without receiving anything in return.
[95] [HMRC] also submitted that the FTT was not entitled to find on the facts that there was any such agreement. He relied on the same arguments as in relation to whether there was an agreement to amend the articles for the purposes of Ground 2. Namely, that there could be no agreement to waive enforcement of a debt where the directors were simply following advice premised on an understanding that the interim dividend could be paid to NG without a debt becoming due and payable to PG. The facts were more consistent with a shared misunderstanding as to the existence of a debt than with an agreement to waive a debt.
[96] For the same reasons as set out under Ground 2, we consider that the FTT was entitled to find and did find at [114] that there was an agreement by PG to waive his right to enforce the debt. We can see no basis on which to interfere with that finding." (HMRC v. Gould [2024] UKUT 285 (TCC), Judge Cannan and Judge Tilakapala)
Payment
- Actual shareholders entitled to whole dividend declared even if paid to another who is not a member (not ultra vires)
"[150] Considering the accounts and returns for all years, the entries and other evidence point towards the Appellant being the sole owner of the share(s) and that he was aware of that.
...
[154] There is a difference in the treatment of improperly paid dividends dependent upon the position of the recipient. Section 847 Companies Act 2006 provides that a recipient member who knows or has reasonable grounds to believe that a distribution or part of it is unlawful is liable to repay it or that part of it to the company. Here however Ms Hamilton was not a member.
[155] HMRC argue that the dividend paid by the company was not unlawful because the dividend was not in excess of retained profits or distributable reserves. They assert that the Appellant being the sole shareholder was entitled to the whole of the dividend declared, irrespective of how he chose to divide it. Because the Appellant was entitled to the whole of the dividend, the distributions to Ms Hamilton remained his income and a charge to tax arose under s 385 ITTOIA 2005 because it was made to the person to whom the distribution is “treated” as made, or “entitled” to the distribution. Where the distribution belongs to someone other than the recipient, that other person is chargeable to tax.
[156] We agree HMRC’s analysis that the dividend was lawful. In those circumstances the Appellant must be treated as entitled to the entirety of the dividend declared. Mr Marre argues that the purported distributions to Ms Hamilton were void: they were not “distributions” to anyone at all and cannot be taxed as such. We do not agree with that analysis as of course there is a difference between a lawfully declared dividend and a purported distribution of part to a non-member. The dividend declared by the company was not void. Any division of that dividend or purported distribution to Ms Hamilton triggered s 385 ITTOIA 2005." (Raine v. HMRC [2016] UKFTT 448 (TC), Judge Connell)
ULTRA VIRES DISTRIBUTIONS
- Distribution in excess of reserves only unlawful to the extent of the excess
"[50] In the result, having considered the authorities to which my attention has been drawn I remain of the view to which I came on my initial consideration of the relevant statutory provisions, namely that the effect in law of making a distribution in excess of the amount of available distributable profits is that the distribution is unlawful to the extent of the deficiency in available profits, not in its entirety. The jurisdiction of the court is thus limited to making orders in respect of the part of the distribution which is unlawful." (Re Marini Ltd [2003] EWHC 334 (Ch), HHJ Richard Seymour QC)
Query whether the same can apply to distributions in specie: Taxation of Companies and Company Reconstructions E1.3.4.
- Creates no entitlement
"[53] The only unlawful feature of the declaration of the Dividend alleged by HMRC was the failure to produce initial accounts within the meaning of section 270(4) CA85, with the result that the lawfulness of the Dividend could not be tested by reference to those accounts, as required by section 270(2) CA85. It followed that the Dividend was prohibited by section 263 CA85. This meant that VPT could not be said to have been entitled to call for a conveyance of the Property at any time. As VP and VPT had common directors, VPT should be imputed with knowledge that the Dividend had been declared in breach of section 263. Under section 277(2) CA85 and the principle originally set out in Belmont Finance Corporation Limited v Williams Furniture Limited (No.2) [1980] 1 All E.R. 393 (and subsequently developed by the Court of Appeal in Rolled Steel Products (Holdings) Limited v British Steel Corporation [1985] 3 All E.R. 52 and Precision Dippings Limited v Precision Dippings (Marketing) Limited and others [1986] Ch. 447), that meant the transfer of the Property to VPT gave rise to a constructive trust of it in favour of VP, reinforcing the point that it could not be said VPT had an entitlement to call for a conveyance of the Property at any time.
...
[63] ... We find that VP did fail to comply with section 270 CA85 and, as a result, VPT did not acquire a valid entitlement to call for a conveyance to it of the Property..." (Vardy Properties v. HMRC [2012] UKFTT 564 (TC), Judge Poole)
Statutory remedies
- Obligation on member to repay if had reasonable grounds to know
"(1) This section applies where a distribution, or part of one, made by a company to one of its members is made in contravention of this Part.
(2) If at the time of the distribution the member knows or has reasonable grounds for believing that it is so made, he is liable—
(a) to repay it (or that part of it, as the case may be) to the company, or
(b) in the case of a distribution made otherwise than in cash, to pay the company a sum equal to the value of the distribution (or part) at that time.
(3) This is without prejudice to any obligation imposed apart from this section on a member of a company to repay a distribution unlawfully made to him.
(4) This section does not apply in relation to—
(a) financial assistance given by a company in contravention of section 678 or 679, or
(b) any payment made by a company in respect of the redemption or purchase by the company of shares in itself." (CA 2006, s.847)
- Knowledge of the facts that make the distribution unlawful required (not knowledge of the law)
"[50]...So, in construing section 277(1) of the 1985 Act, the meaning to be given to the words "he knows . . . that it is so made" is that it is enough that the member has the relevant knowledge of facts which, if they exist, lead to the conclusion that the distribution does contravene the statutory provisions; it is not necessary that the member has the relevant knowledge of the legal rules and the consequences of those rules when properly applied to the facts."
(Re It's A Wrap (UK) Ltd [2006] EWCA Civ 544)
- Statutory remedy is without prejudice to common law relief
"[99] The statutory provision was enacted in order to give effect to Article 16 of the second EC directive on company law (77/91/EEC). Article 16 provides as follows:
"Any distribution made contrary to Article 15 must be returned by shareholders who have received it if the company proves that these shareholders knew of the irregularity of the distribution made to them, or could not in view of the circumstances have been unaware of it."
...
[101] The statutory remedy is without prejudice to any relief available at common law: s.847(3) of the 2006 Act. At common law, a distribution of a company's assets to a shareholder, except in accordance with specific statutory provisions, is unlawful and ultra vires the company: Progress Property Co Ltd v Moore [2011] 1 WLR 1, per Lord Walker JSC at [15].
[102] In Precision Dippings Ltd v Precision Dippings Marketing Ltd [1986] Ch 447, Dillon LJ, at p.457H to 458A held that because the shareholder, who received a dividend pursuant to an ultra vires act on the part of the company, "had notice of the facts and was a volunteer in the sense that it did not give valuable consideration for the money", it was a constructive trustee for the company, citing Rolled Steel Products (Holdings) Ltd v British Steel Corporation [1986] Ch 246, 298 (per Slade LJ) and 303 (per Browne-Wilkinson LJ), who held that those who received money from a company as a consequence of its directors' breach of duty were liable where they had notice of the breach.
[103] The parties were in agreement that the liability of LFO under s.847 as recipient of the Distribution is limited to that part of the Distribution which LFO knew or had reasonable grounds for believing was made in contravention of Part 23. No argument was advanced that the measure of relief at common law would be different." (SSF Realisations Limited v. Loch Fyne Oysters Limited [2020] EWHC 3521 (Ch), Zacaroli J)
Other remedies
- Constructive trust if recipient had notice
" The payment of the £60,000 dividend to Marketing was an ultra vires act on the part of the company. Marketing when it received the money had notice of the facts and was a volunteer in the sense that it did not give valuable consideration for the money. Marketing accordingly held the £60,000 as a constructive trustee for the company: see Rolled Steel Products (Holdings) Ltd. v. British Steel Corporation [1986] Ch. 246, per Slade L.J., at p. 298, and per Browne-Wilkinson L.J., at p. 303. That situation did not change before the company went into liquidation." ( Precision Dipping Ltd v. Precision Dippings Marketing Ltd [1986] Ch 447, Dillon LJ)
- Misappropriations held on trust for company
"[36] In these circumstances, there can, in my judgment, be no doubt that EGL is entitled to a declaration that Ms Smalley holds the property on trust for herself and EGL, and subject to EGL's proprietary claim: see Re Diplock [1948] Ch 465." (Bracken Partners Limited v. Gutteridge [2003] EWHC 1064 (Ch))
- Director liability to make good: query whether strict or fault based
Strict
"[47] It is not necessary to express a definite view on this issue in this case. As counsel for HMRC pointed out in their written case, there has been no challenge to the finding by the deputy judge that as from 18 August 2004 all the dividends were unlawful, and it is accepted that the relief available by way of a defence under section 727 CA 1985 would have been available if Mr Holland could show that he acted reasonably. So the issue is academic here, and it was no doubt for this reason that it was not thought to be necessary to develop the point fully in oral argument. But the better view seems to me that in cases such as this, where it is accepted that the payment of dividends was unlawful, a director who causes their payment is strictly liable, subject of course to his right to claim relief under the statute." (HMRC v. Holland [2010] UKSC 51, Lord Hope)
Fault based
[139] On the basis of the above cases, by the end of the 19th Century I consider that the law was established to be as follows. First, directors, although not trustees, were to be treated as if they were trustees in relation to the company's funds. Second, if they knew the facts which constituted an unlawful dividend, then they would be liable as if for breach of trust irrespective of whether they knew that the dividend was unlawful. Third, however, if they were unaware of the facts which rendered the dividend unlawful then provided they had taken reasonable care to secure the preparation of accounts so as to establish the availability of sufficient profits to render the dividend lawful, they would not be personally liable if it turned out that there were in fact insufficient profits for that purpose. Fourth, they were entitled to rely in this respect upon the opinion of others, in particular auditors, as to the accuracy of statements appearing in the company's accounts. Fifth, nothing in the authorities cited as the leading authorities for the strict-liability view (Flitcroft's Case, Lands Allotment and Re Sharpe) undermines that conclusion.
...
[157] For the above reasons, I conclude that the law on the issue whether liability is strict or fault-based remains the same as it was at the end of the 19th Century (as summarised in paragraph 139 above).
[158] I consider this to be consistent with first principles, so far as it applies to the payment of unlawful dividends. The question whether there are sufficient distributable profits may turn on fine questions of accounting judgment. Directors are not required to be accountants and the comments of Lord Davey and Lord Halsbury LC in Dovey v Cory as to directors being entitled to rely on the judgment of others whom they appoint to carry out specialist financial roles within the company are as pertinent today as when they were made in 1901." (Burnden Holdings (UK) Ltd v. Hunt [2019] EWHC 1566 (Ch), Zacaroli J)
Tax consequences
- Not income if held on constructive trust
"[Counsel for the Revenue] then proceeded to raise the contention that the payments were ultra vires the four companies and as such had no legal operation. It seems to me that this contention is well founded and provides the real answer to the question. The Special Commissioners have found that none of the companies had any reason to issue a debenture unless Ridge caused it to do so, and that the Marlborough companies and Anthracite had no reason at all for borrowing. Indeed, the terms of each debenture indicate on the face of it that the so-called interest represented in fact a gratuitous disposition of an enormous sum by the company concerned in favour of Ridge. On these facts, and in the absence of any further material, it seems to me to follow that it was not within the powers of the company to enter into the covenant or to make the payment. The company can only lawfully deal with its assets in furtherance of its objects. The corporators may take assets out of the company by way of dividend or, with leave of the Court, by way of reduction of capital, or in a winding-up. They may of course acquire them for full consideration. They cannot take assets out of the company by way of voluntary disposition, however described, and if they attempt to do so the disposition is ultra vires the company." (Ridge Securities Ltd v. CIR 44 TC 373 at 394, Pennycuick J - concerning whether purported payments were annual payments)
"Failure to comply with these requirements will mean that the distribution is unlawful (section 836(4)). Conversely, if for example directors correctly prepare interim accounts as above, a dividend paid on the basis of those accounts will be lawful, even if the annual accounts prepared later show an insufficient figure of distributable profits. The consequences of an unlawful distribution are considered below under ‘Ultra vires and illegal dividends’. The shareholders cannot agree to waive the requirements of the Act (see Precision Dippings Ltd v Precision Dippings Marketing Ltd [1986] 1 Ch 447).
...
Section 847 provides that a recipient member who knows or has reasonable grounds to believe that a distribution or part of it is unlawful is liable to repay it or that part of it to the company.
No such liability exists in respect of a member who is an innocent recipient. The immunity of an innocent recipient shareholder is illustrated in Re Denham & Co [1883] 25 Ch D 752 and Moxham v Grant [1990] 1 QB 88. This principle relates mainly to the liability of a shareholder in a quoted company, who cannot be expected to have detailed knowledge of the day to day running of the company, but simply receives a reward for holding shares by way of dividend. When dealing with private companies controlled by directors who are shareholders, such a member ought to know the status of the dividend and it is expected that section 847 will apply in the majority of such cases.
Where a dividend is paid and it is unlawful in whole or in part and the recipient knew or had reasonable grounds to believe that it was unlawful then that shareholder holds the dividend (or part) as constructive trustee in accordance with the principles stated by Dillon L J in Precision Dippings Ltd v Precision Dippings Marketing Ltd [1986] 1 Ch at page 457. Such a dividend (or part) is void for the purposes of both the Income Tax charge on distributions under ITTOIA05/S383 and the long abolished ACT charge under ICTA88/S14. The company has not made a distribution as a matter of company law, and so the dividend does not form part of the recipient’s income for tax purposes. The company has not parted with title to the sum that it purported to distribute, which as a consequence remains part of its assets under a constructive trust (see also Ridge Securities Ltd v CIR (1964) 44TC373). Where the company concerned is a close company, it is regarded as having made a loan to the shareholder by virtue of CTA10/S455(1), thereby triggering a charge under CTA10/S455(2). Relief would however be available under CTA10/S458 where the dividend is repaid to the company. That repayment might be by cash or cheque, or by a suitable entry in the loan account.
A shareholder who had no knowledge of the illegality of the dividend and no reasonable grounds on which so to believe is not a constructive trustee and does not have to repay the sum, which will constitute a distribution under CTA10/S1000 (1) B. If such a shareholder then repaid the company (although not liable to do so) this is simply a voluntary assignment or transfer of the shareholder’s own income so that it does not affect the tax position. However, in practice it is desirable to consider all such cases on their particular facts and merits." (CTM15205)
- Not necessary to have all parties before Tribunal
"[Counsel for the taxpayer] rested his argument almost entirely on the proposition that it would not be right to decide this matter of corporate powers in the absence of the four companies. I agree of course that no finding of mine in this case will bind the companies, but it must, I think, be a matter of frequent occurrence that the Special Commissioners have to determine as between a taxpayer and the Revenue the effect of some document, for example a contract or settlement, in the absence of the other parties to it. No third party machinery is available. So here it seems to me that, in order to decide the issue as between Ridge and the Crown, I am bound to consider the validity of these payments made to it, and if I come to the conclusion, as I do, that they were invalid, to resolve the issue between Ridge and the Crown on that basis. It cannot be right that I should decide this issue on the footing that Ridge has received annual payments where the only proper inference from the facts is that the payments were a nullity. The contention based on the absence of the other companies has no merit, since all the companies are subsidiaries of Ridge, and Mr. Holland had all the relevant information in his possession. No application was made to me on behalf of Ridge to remit the case to the Commissioners in order that Ridge might adduce further evidence on this new point, i.e., with a view to showing that the payments were within the powers of the companies concerned. Nor was I asked to look at the memorandum of association of any of the companies. So on this point I affirm the decision of the Special Commissioners." (Ridge Securities Ltd v. CIR 44 TC 373 at 394, Pennycuick J)