Is Dividend Expense?
Dividends are basically an amount that is distributed by the business from the net income it had earned previously to the shareholders and is therefore not classified as an expense. For taxation purposes also, the dividends cannot be classified as an expense. The dividends are never the part of operational expenses, nor they can be reported under the cost of goods sold. In this topic we are going to see is dividend expenses?
Why is Dividend Expense?
The dividends are regarded as the residual profits that are distributed by the business from the residual earnings that it had earned from the previous financial year. These profits are distributed in the hand of the investors of the business to make investors retain with the business as stakeholders, and in better terms, this is regarded as a practice to boost investor confidence towards the business as a whole. Therefore, for the purpose of both taxes and reporting, the dividends are never classified as expenses.
For the taxation purpose, the dividends are regarded as the re-distribution of the residual earnings that the business gathers from the business operations. Therefore, the business is giving dividends out of the retained earnings, and technology such profits cannot be regarded as the expense as they are with the business itself. However, if the business is given the authority to regard the dividends as expenses, they would start writing them off and report near-zero values as profits. This would enable them to bypass the taxation liability, and this would allow them to distribute nearly all profits to the shareholders.
To avoid such a case, the business has to retain some profits in their savings account, and that could be regarded as retained earnings. They have to maintain and keep accumulating the profits in such an account, which would help them make a surplus. From the surplus, they can start the dividend distribution. The retained earnings account has to be presented in the balance sheet account.
Moreover, the operational expenses are defined as expenses that are borne by the business on a day to day business. Similarly, the cost of goods sold is regarded as the cost that comes in building the finished goods. Therefore, dividends can never be classified as operational expense or cost of goods sold since the dividends are generally distributed once or twice a year. Therefore, they have no relevance in building products or are not borne on a daily basis. Moreover, the business always has the capability to modify or cancel out the dividend policy, and thus such values may then go un-reported in the financial statements of the business. The dividends, however, influence the cash flow statement of the business. The dividends, therefore, influence the financing activities of the cash flow statement wherein it reduces the cash balance of the business, and although they cannot be classified as an expense, they basically reduce the ending balance of the cash.
Example of Dividend Expense
Suppose the business ABC has paid the dividends of $340,000 to its shareholders. The business, therefore, would debit the dividend payable account present in the equity account of the business. The corresponding effect would be a credit to the cash account by the $340,000 in the balance sheet, thereby reducing the business’s ending cash balance.
For the above transactions following would be the journal entry: –
Recording of Dividend Expense
Whenever it declares the dividends to the shareholders, the business generally has an impact on the cash flow statement. This is because the business has to report dividends under the cash flow statement of the balance sheet under the column of the financing activities. The amount reported under the financing activities then reduces the ending cash balance of the business.
Whenever the business declares the dividends, they reduce the balance in the shareholder equity. When declared at the declaration date, the dividends would be a creation of a journal entry. The journal entry would create a debit to the equity account and credit to the dividend payable account. When the dividends are paid out officially on the pay-out date, the dividends will get debited from the dividend payable account. The corresponding journal entry would be a credit to the cash account in the balance sheet.
Therefore, another reason why dividends can never be classified as dividend expense is that such entries happen at the balance sheet level, and no journal is created on the income statement level. In dividend accounting, normally, dividend declaration date, dividend date, payment date, and record date are regarded as critical dates. The dividend declaration date is regarded as the date when the board of directors officially declare the net profit value to be declared as dividends. Similarly, the record date is defined as the date where the shareholders are recorded in the book of accounts of the business. Finally, the in-dividend date is basically the trading day which is the final day where the shareholders being the part of the business on this specific day are entitled to receive the dividends.
Lastly, the payment date is regarded as the date on which the payment is officially disbursed to the rightful and entitled shareholders of the business.
Conclusion
Dividends are basically residual profits that are distributed to the shareholders from the retained earnings that the business generates round the year and, therefore, cannot be classified as an expense. If classified as an expense, the dividends would give the business a handle to write them off and report out profits equivalent to zero, thereby evading taxes. The business has to report dividends under the cash flow statement of the balance sheet under the column of the financing activities. The amount reported under the financing activities then reduces the ending cash balance of the business. Whenever the business declares the dividends, they reduce the balance in the shareholder equity. Therefore, another reason why dividends can never be classified as dividend expense is that such entries happen at the balance sheet level, and no journal is created on the income statement level.
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