Definition of Dividends Account
When a corporation declares a cash dividend, the amount declared will reduce the amount of the corporation's retained earnings. Instead of debiting the Retained Earnings account at the time the dividend is declared, a corporation could instead debit a related account entitled Dividends (or Cash Dividends Declared). However, at the end of the accounting year, the balance in the Dividends account will be closed by transferring its balance to the Retained Earnings account. When interim financial statements are issued, the amount reported for the corporation's retained earnings will be the combination of the credit balance in the Retained Earnings account and the debit balance in the Dividends account.
Both the Dividends account and the Retained Earnings account are part of stockholders' equity. They are somewhat similar to the sole proprietor's Drawing account and Capital account which are part of owner's equity. Both the Dividends account and the Drawing account are temporary balance sheet accounts since they are closed at the end of each year in order for the accounts to begin the following year with $0 balances.
Example of Using the Dividends Account
Assume a corporation declares a cash dividend of $50,000 on its common stock.
On the date the dividend is declared, the corporation will credit the current liability account Dividends Payable for $50,000 and will debit either one of the following accounts for $50,000:
- Retained Earnings, or