28th January, 2019 by Sarah Lee
Profits available when interim dividends are paid determines if they are lawful; and quantum meruit is no defence to an unlawful dividends claim when the company is insolvent. Sarah Lee considers Global Corporate Ltd v Hale [2018] EWCA Civ 2618.
Powerstation UK Limited (“the Company”) made monthly dividend payments to its directors/shareholders. At the end of each financial year, the Company’s accountants would, if there were insufficient profits to justify the dividends paid, reclassify the payments as salary and adjust the tax payable.
After the Company was placed into creditors’ voluntary liquidation, the liquidator demanded repayment of £23,511 which he said were unlawful dividends paid in monthly amounts of £1,381 over the preceding months. Mr Hale refused to pay and proceedings were issued.
At first instance the claim failed. The trial judge found that at the time the payments were made, the directors had not taken a definitive decision to pay dividends, rather the payments were on a provisional basis subject to a formal decision being taken at the end of the financial year after the accounts for that period were finalised.
The Court of Appeal disagreed with this decision which was based on a line of reasoning introduced by the trial judge during his own cross-examination of the director, had never been raised in the proceedings before and had not been the director’s case. The trial judge was wrong to concentrate on the intention or state of mind of the director when authorising the payments as dividends and should have focused on the dividend payments, the legality of which must be tested at the time of payment and not at some later date.
The evidence was that the payments when made were intended to be dividends: they were described as interim dividends, declared to HMRC as dividends and taxed on that basis; further the directors/shareholders did not have service contracts or intend to be treated as salaried employees.
On the evidence before the court the dividends were unlawful. A dividend may only be made by reference to relevant accounts that show profits available for the purpose at the time of payment, but the last filed accounts for the Company indicated no distributable reserves and there were no interim accounts by reference to which dividends could have been paid.
The accountants had not prepared year-end accounts or altered the Company’s treatment of the payments before insolvency intervened. Whilst a company might, upon realising at year end that it has insufficient reserves or profit, process a notional repayment of the dividends and re-apply those payments in a way that represents a lawful application of its assets (for example as salary), as soon as a company had entered a formal insolvency that option was not available to it. This was the case for the Company: the dividend was unlawful and had to be repaid.
The (quantum meruit) argument that the director was entitled to be paid for his work delivering the services of the Company (as opposed to fulfilling the functions of a company director) could not help the Respondent: the law will not imply a contract for remuneration which can only be agreed to under the articles of association by appropriate board resolution (applying Guinness Plc v Saunders [1990] 2 AC 663); more fundamentally, once the Company was in liquidation any quantum meruit claim must rank as a claim in the liquidation and could not be set off against a liability to repay an unlawful dividend.
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