There may be situations where a limited company would like to distribute a dividend to its shareholders, but for whatever reason, one or more shareholders would like to waive their rights to their share of the distribution.
How does a dividend waiver work?
By law, a limited company can only distribute dividends in an equitable way – i.e. in proportion to the number of shares owned by each shareholder. For example, if you distribute dividends at £100 per share amongst three shareholders who own 40%, 25% and 35% of the company respectively, the shareholders would be entitled to £4,000, £2,500 and £3,500 – assuming there are 100 £1 ordinary shares.
However, a situation may arise whereby one shareholder does not wish to receive a dividend, while the other shareholders receive a dividend payment. In the above scenario, if the 40% shareholder waived their right to the dividend, the other shareholders would receive £2,500 and £3,500 respectively.
It is important that all dividend waivers are made for commercial reasons, to avoid a challenge from the taxman. They should not be regularly used, and the dividend waiver itself must be formally executed and signed by all the holders or persons otherwise entitled to the share.
Be cautious when waiving dividends
HMRC states that not all dividend waivers are liable to challenge, however there are situations where the Settlements Legislation may apply, for example if the level of retained profits would not allow the rate of dividends to be paid to all shareholders were the waiver not in place, or if there was evidence that a dividend was waived for tax avoidance reasons.
Emily Coltman, Chief Accountant at FreeAgent, explains further:
“Dividends can be waived but this needs to be documented very carefully, to avoid a challenge from HMRC, because sometimes anti-avoidance provisions apply. Speak to your accountant about wording a formal deed to waive your dividends.
“An alternative approach is to have different classes of shares (for example, ordinary A, ordinary B) and pay dividends only on one class of share, but again you need to be careful if you have already issued shares in the company, and again I would recommend speaking to your accountant about the best way to handle this for your individual circumstances.”
TSEM4225 – HMRC examples of when the Settlements legislation may apply to dividend waivers.