Legal Provisions
Under Section 123 of the Companies Act, 2013, read with Rule 3 of the Companies (Declaration and Payment of Dividend) Rules, 2014, a company may declare dividend out of accumulated profits earned in previous years and transferred to free reserves, even if there is no profit or the company has incurred a loss in the current financial year. However, this is subject to certain strict conditions prescribed under Rule 3.
In the case of listed companies, additional compliance requirements arise under Regulation 43 and Regulation 43A of the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (LODR), which mandate timely disclosure of dividend policy, adherence to uniform procedures for declaration and payment of dividends, and transparency in communication with shareholders.
Practical Perspective
Let us understand these provisions with practical application in the case of A Limited, which incurred a loss during FY 2024–25 but still wishes to declare a dividend to maintain investor confidence.
(Note: The examples below are illustrative and may not cover every possible scenario — companies should assess their own financials and compliance obligations in detail before proceeding.)
a. The rate of dividend declared shall not exceed the average of the rates at which dividend was declared in the three years immediately preceding that year
Example:
A Limited declared dividends at 5%, 6%, and 7% in the last three years.
→ Average = (5% + 6% + 7%) / 3 = 6%
Therefore, in FY 2024–25, even though there is a loss, A Limited can declare a dividend up to 6% only.
b. The total amount to be drawn from such accumulated profits shall not exceed one-tenth of the sum of paid-up share capital and free reserves
Example:
Paid-up Share Capital = ₹50 crore
Free Reserves (General Reserve + Retained Earnings) = ₹30 crore
→ Total = ₹80 crore
→ One-tenth = ₹8 crore
Hence, A Private Limited can draw a maximum of ₹8 crore from reserves to pay the dividend.
c. The amount so drawn shall first be utilised to set off the losses incurred in the financial year before declaring any dividend
Example:
Loss for FY 2024–25 = ₹3 crore
Total permissible withdrawal from reserves = ₹8 crore
→ ₹3 crore will be first used to set off the current year’s loss
→ Balance can be distributed as dividend
d. The balance of reserves after such withdrawal shall not fall below 15% of its paid-up share capital
Example:
Paid-up Share Capital = ₹50 crore
15% of ₹50 crore = ₹7.5 crore
After withdrawing ₹8 crore from reserves (₹30 crore – ₹8 crore = ₹22 crore left),
→ ₹22 crore > ₹7.5 crore
Points to Remember
Dividend cannot be declared out of capital; only out of free reserves.
Board Resolution and Shareholder Approval are mandatory for declaring such dividends.
Disclosure in the financial statements and Board’s Report is compulsory.
No default should exist in repayment of deposits, loans.
Conclusion
Declaring dividend in a loss-making year is legally permissible but financially sensitive.
For a company like A Limited, compliance with Section 123 and Rule 3 is non-negotiable. While it may help maintain shareholder goodwill, it must be backed by prudent financial judgment, board transparency, and adequate reserve management.
The scenarios illustrated above are limited examples meant to simplify understanding. In practice, each company’s financial structure, accumulated profits, and reserve composition may vary, and therefore, professional evaluation and compliance review are essential before any such dividend declaration.