What are dividends?

In accounting, dividends often refers to the cash dividends that a corporation pays to its stockholders (or shareholders). Dividends are often paid quarterly, but could be paid at other times. For a dividend to be paid, the corporation's board of directors must formally approve/declare the dividend. Hence, the board of directors may decide that a dividend will not be declared.

Definition of Dividends

It is important to note that the dividends declared and paid by a corporation are not an expense of the corporation. Rather, dividends are a distribution of the corporation's earnings. This explains why state laws likely require corporations to have a credit balance in Retained Earnings before declaring and paying dividends. Practically speaking, the corporation must also have sufficient cash available to meet its current and future needs.

While all corporations have common stock, some corporations will also have preferred stock. In that situation the preferred stockholders must receive their dividend before the common stockholders.

Declaring a Dividend

When the board of directors declares a dividend, it will result in a debit to Retained Earnings and a credit to a liability such as Dividends Payable. When the corporation pays the dividend, Dividends Payable will be debited and Cash will be credited.

Since Retained Earnings is a component of stockholders' equity, the declaration and payment of a dividend reduces the corporation's assets and its stockholders' equity.