Whether dividends paid on stocks are considered assets depends on the role you play in the investment – the issuing company or the investor. As an investor in the stock market, any income you receive from dividends is considered an asset. However, for the company that issued the shares, those same dividends represent a liability.
- For shareholders, dividends are an asset because they increase the shareholders’ equity by the amount of the dividend.
- For businesses, dividends are a liability because they reduce the assets of the business by the full amount of the dividend payments.
- The company deducts the value of the dividend payments from its retained earnings and transfers the amount to a temporary subaccount called dividends payable.
- Accumulated dividends give accumulated preferred stock owners the right to receive dividends before other shareholders.
What are dividends?
At the end of each fiscal year, a company that made a profit may choose to redistribute some of those funds to its shareholders in the form of dividends. They can pay dividends on a regular basis, often quarterly. Basically, dividends offer a tangible way for companies to show gratitude to their shareholders for their continued support and investment.
Paying constant or increasing dividends each year is considered a sign of financial health. Companies with a generous dividend record tend to be very popular with investors.
Although common shareholders are entitled to any common dividend payment, they are not guaranteed the payment of dividends; a company that has paid dividends in the past may suspend payments for various reasons.
Dividends are considered assets for shareholders
When a company pays cash dividends on its outstanding shares, it first declares that the dividend will be paid as a dollar amount per share owned. For example, a company with 2 million shares outstanding that declares a 50 cent cash dividend pays a total of $ 1 million to all shareholders.
Cash dividends are considered assets because they increase the shareholders’ net worth by the amount of the dividend.
Dividends are liabilities for companies
Rather, the assets of the issuing company are reduced by paying a dividend. In fact, the declaration of a dividend creates a temporary liability for the company.
When a dividend is declared, the full value is deducted from the company’s retained earnings and transferred to a temporary liability subaccount called dividends payable. This means that the company owes money to its shareholders, but has not yet paid. When the dividend is finally distributed, this liability is erased and the company’s cash subaccount is reduced by the same amount.
The bottom line is that the company’s balance sheet reflects a reduction in the asset and equity accounts equal to the amount of the dividend, while the liability account does not reflect any net change.
Accumulated dividends vs. accumulated dividends
Dividends on ordinary shares that have been declared by a company but have not yet been paid to shareholders are called accumulated dividends. These dividends are now owned by the shareholder on the date of registration, which means that those shareholders become creditors of the company.
To be eligible for the dividend, shareholders must purchase the shares at least two business days prior to the record date, which is the cutoff date used to determine which shareholders are entitled to receive dividends. The company records these dividends as current liabilities from the date of declaration until the day they are paid to shareholders.
But what happens if a company does not pay dividends to its shareholders? There are several reasons why a company may suspend its dividend payments. A company may stop paying dividends to shareholders in response to an economic downturn, an unexpected increase in operating expenses, or the need to use the money to finance major projects. In this scenario, the owners of the common shares of the company will not receive dividend payments.
However, the situation is different for accumulated preferred stock shareholders. These shareholders own shares that stipulate that late dividend payments must be paid to them first before shareholders of other classes of shares can receive their dividend payments. This results in accrued dividends, which are unpaid dividends on accrued preferred stock shares. Accumulated dividends will continue to appear on the company’s balance sheet as a liability until paid. If the company begins paying dividends again, the accumulated preferred stock shareholders will have priority over all other shareholders.