Understanding What Are Distributable Profits: A Simplified Guide

Distributable profits refer to the amount of a company’s profits which can be distributed to its shareholders as dividends. It is important for companies to understand the concept of distributable profits and its legal implications under UK financial regulations.

Various terminologies associated with distributable profits include distributable reserves, realised profits, accumulated realised profits, and unrealised profits. These terms can be complex, and it is essential to understand their meanings to accurately determine distributable profits.

The Institute of Chartered Accountants in England and Wales (ICAEW) provides guidance on realised and distributable profits, which is applicable from 1 January 2023.

Determining distributable profits requires understanding the legal requirements outlined in the Companies Act 2006. Realised profits and losses, as disclosed in a company’s financial statements, play a crucial role in calculating distributable profits. Any unlawful distribution of profits can have legal implications for the company.

Key Takeaways

• Distributable profits are described as the amount of a company’s profits that can be distributed to shareholders as dividends.
• It is essential to understand the various terminologies associated with distributable profits, such as distributable reserves, realised profits, and accumulated realised profits.
• Determining distributable profits requires understanding legal requirements outlined in the Companies Act 2006.
• Realised profits and losses play a crucial role in calculating distributable profits.
• Any unlawful distribution of profits can have legal implications for the company.

What are Distributable Profits?

Distributable profits refer to the profits a company earns that can be allocated to shareholders to pay dividends. However, not all profits a company earns are immediately distributable. 

These profits are then accumulated and distributed to shareholders upon making sure the distribution of dividends is deemed lawful.

Certain reserves are taken into account when determining distributable profits. These may include distributable reserves as defined by the Financial Reporting Standard 102 (FRS 102).

By understanding distributable profits and the associated terminology, companies can ensure lawful distribution of dividends to their shareholders, while investors can gain valuable insights into the financial rewards they may receive.

Determining Distributble Profits under UK Company Law

Under UK company law, determining distributable profits is a crucial process that companies must follow to pay dividends to their shareholders. Realised profits and losses, as disclosed in a company’s financial statements, are an essential component in calculating distributable profits. These profits are accumulated over time and can be utilised for distribution to shareholders, subject to certain legal requirements and guidelines.

The Companies Act 2006 sets out the legal framework for determining distributable profits. Section 830 of the Act defines distributable profits as “the profits of the company that are available for distribution among its members.” However, it is important to note that distributable profits only include realised profits that are available for distribution. 

Companies must also disclose relevant information in their financial statements, including profits and losses, assets, liabilities, and net assets. The Institute of Chartered Accountants in England and Wales (ICAEW)  must be followed when determining distributable profits. This guidance provides clarity on how to calculate realised profits and losses, what constitutes sufficient distributable profits, and how to disclose these figures in the company’s financial statements.

It is essential for companies to ensure that the distribution of profits is lawful and in compliance with the Companies Act. Any unlawful distribution can have legal implications, including liability for directors and possible criminal charges. Therefore, it is advisable for companies to seek professional advice from accountants or legal advisors to ensure compliance with the relevant laws and regulations.

In summary, the process of determining distributable profits under UK company law is a crucial aspect that companies must follow to pay dividends to their shareholders. Companies must carefully calculate their realised profits and losses, ensure they have sufficient distributable profits, and follow the legal requirements for disclosure and distribution. Consulting professional accountants or legal advisors can help companies navigate the complexities surrounding distributable profits and ensure adherence to the requirements outlined in the Companies Act.

Factors Impacting Distributable Profits and Considerations for Companies

The calculation of distributable profits for a company can be impacted by the legal structure of a limited company which may influence the distribution of profits. Additionally, the application of UK Generally Accepted Accounting Principles (GAAP) and the treatment of accumulated realised profits and losses may also have implications.

It is worth noting that the inclusion of profits and losses in the company’s accumulated ‘realised’ profits, as disclosed under ‘relevant accounts,’ is crucial to determining distributable profits. 

Furthermore, it is important for companies to comply with applicable legislation, including any amendments to the Companies Act 2006 enacted by Parliament. This means not only considering the fall due of any creditor debts but also determining whether any distribution is lawful. If a company makes an unlawful distribution, it could result in legal repercussions for the company and the investor receiving the surplus.

In light of the COVID-19 pandemic, updated guidance has been provided by the Institute of Chartered Accountants in England and Wales (ICAEW) and the Chartered Accountants of Scotland (ICAS) regarding distributable profits. Legal advice, share buy-backs must be taken into account when considering distributable profits.

Companies must also determine whether there is sufficient distributable profit to make a distribution, taking into account intragroup transactions. Companies should consult their accountants to ensure they comply with generally accepted accounting principles and legal requirements and consider all relevant factors before making any distributions to shareholders.

Conclusion