In the third issue of this year's newsletter we draw attention to the rules on the timing of decisions on dividend payments and on interim dividends.
When should or can a decision be made on paying dividends?
The accounting procedure for payable dividends changed for financial years from 2016 on. At the entity paying the dividend, dividends have to be accounted for on the date of the dividend resolution as a decrease in retained earnings, and they cannot be recognised in the underlying financial statements. Parallel to the changes in accounting rules, however, the rules under company law did not change. This means that the decision on dividends can still be made at the same time as of the approval of the financial statements. If a company fails to do this, the question arises of what can be done in such a situation. There is scope here for creative solutions, but will they be lawful? For example, can the resolution on approving the financial statements and distributing after-tax profit be subsequently modified? According to the Hungarian Civil Code (“Civil Code”), any stipulation of articles of association that sets rules for payments made by the company that are more favourable for the owners than those included in the Civil Code shall be null and void. Consequently, some experts within the field deem it unlawful, while others believe it is risky in terms of lender protection and taxation implications to make owners’ decisions on dividends that subsequently modify the resolution approving the financial statements, since in this manner the owners would find themselves in a more favourable situation than the one preceding the modification.
But what about a decision made on a date other than the date of the resolution approving the financial statements? On one hand, some professionals argue that this can be interpreted as a violation of the itemised requirements of the Civil Code, since the decision is not made at the same time as of the approval of the financial statements. On the other hand, it can also be construed in the sense that they want to modify the original decision, since if no decision was made on the dividend payments upon approving the financial statements, then indirectly they decided to place the amount of after-tax profit into retained earnings, i.e. the very same situation described above will arise.
In such cases it is worth examining whether an interim dividend payment would be more appropriate than a dividend payment.
If owners plan to pay interim dividends, the question may arise as to whether preparing an interim balance sheet is always required, or whether the financial statements for the previous year can also be used – complying of course with the six-month time limit defined by the Act on Accounting in respect of using financial statements or the interim balance sheet to support adequacy of equity. According to the Act on Accounting, the dividend payment threshold has to be defined based on an interim balance sheet or other balance sheet included in the underlying financial statements. By contrast, according to the Civil Code, the dividend payment threshold must be determined based on an interim balance sheet. If, by referring to the requirements of the Act on Accounting, a company would pay an interim dividend based on the annual financial statements without preparing an interim balance sheet, then it would have to address the potential tax and legal risks. One should consider, for example, the tax risk when, in the course of a tax authority inspection, a distributed interim dividend is reclassified as another type of receivable due to the provisions of the Civil Code, and thus transfer pricing rules are applied. Additionally, in such cases we cannot forget about potential lender protection issues either.
Some final words
The information provided in this text does not depict the laws and regulations in full, and knowledge of the legal regulations is required to fully understand them. Should you have any questions relating to the content of the newsletter, please contact your tax, accounting or legal adviser, or get in touch with us.