In September 2017 we reported on a case (Global Corporate Limited v Hale) in which the High Court found that payments made by a company to its director-shareholders, although characterised at the time as dividends, were in fact salary payments.
This was in part because the directors had declared the dividends “provisionally”, with the possibility of “undeclaring” them and re-characterising them as salary payments if it turned out the company did not have enough distributable profits to justify the dividends. In the event, the company did not have sufficient distributable profits, and so the judge found that the payments were made by way of salary.
We noted at the time that the decision was problematic for various reasons. In particular, there is no real concept of “provisionally” declaring dividends in English law, and the judge arguably placed too much emphasis on the directors’ intentions, rather than what they actually did at the time.
In a welcome decision, the Court of Appeal has now overturned the High Court’s original judgment. The Court found that, on the contrary, the payments were dividends for four key reasons:
- The company’s directors had expressly characterised them as interim dividends and had declared them as such to HM Revenue & Customs. There was no mention at the time of the payments taking the form of salary payments.
- There was no suggestion that the dividends were declared “provisionally” and, although the court did not delve into the law on this point, the phrasing of the leading judgment seems to cast some doubt on whether it is even possible to declare a dividend “provisionally”.
- In any case, regardless of whether the directors declared the payments as dividends, they were clearly distributions to the company’s shareholders (i.e. the directors), rather than salary payments, not least because the directors did not have service contracts with the company.
- The judge in the original decision had focussed on the intention of the directors, rather than the nature of the payments themselves. Although the knowledge of a company’s directors can be relevant in some cases when deciding whether a payment is a dividend, it is not possible for directors to intend a payment to be something else when in reality it is a distribution.
This is clearly the right result. The original decision was odd, driven partly by the fact that the trial judge had embarked on his own line of questioning that took his decision down the wrong route.
If there is a lesson from this decision, it is that, when authorising payments to shareholders, the directors of a company should be crystal clear what form the payments are intended to take. They may, for example, be salary payments, or repayments of loans, if there are existing arrangements that support that classification. But if a cash payment to a shareholder cannot be characterised in this way, it will almost certainly be a distribution and will need to be paid out of distributable profits.