Cash Dividend Affects Accounting Equation

Cash Dividend Declared And Paid Effect On The Accounting Equation / The Declaration Of Cash Dividend Affect The Accounting Equation / Dividends That Are Paid To Owners Would Affect Both The

When Dividend is declared, then it takes some time to pay it to stockholders / shareholders i.e., the process of declaring and paying dividend to stockholders is not immediate. In case of Net Profit / Net Income for the period, the board of directors decide to declare the cash dividend to stockholders. At this time, it is the Liability of the company to pay its stockholders the amount of dividend for the period from Retained Earnings Account. Declaring and Paying dividend affects the both sides of the Accounting Equation.

Example: On 20^th December, 2020, the board of directors of ABC Company decided to declare dividend of Rs. 6 per share for the year. The capital stock / issued capital is 1000 shares and the total amount of dividend must be paid on 25^th January, 2021 is Rs. 6000.

At the time of declaration of dividend but not yet paid to shareholders / stockholders, the following journal entry is recorded as shown below:

                                                                            Dividend a/c  6000

 

                                                                                                        Dividend Payable a/c  6000

 

                                                                                            (Dividend Declared)

Later on, when the company actually paid cash dividend of Rs. 6000 (6 X 1000) to shareholders, then the journal entry to record is given below:

                                                                                    Dividend Payable a/c  6000

 

                                                                                                                             Cash a/c 6000

 

                                                             (Dividend Paid For Cash To Stockholders / Shareholders)

 

The journal entries recorded above show the following effects on the left side / assets side and the right side / liabilities and equity side of the accounting equation as shown below:

                                                       Assets     =      Liabilities                                  +       Equity

                                                            0          =    Dividend Payable                        +   (-Dividend)

                                                            0          =          6000                                        +      (-6000)

                                                        -Cash      =          6000  -Dividend Payable      +      (-6000)

                                                       -6000       =          6000 - 6000                            +      (-6000)

                                                       -6000       =              0                                           +      (-6000)

The first entry is related to dividend declared which affects only the right side of the accounting equation i.e., dividend payable as a current liability is increasing by Rs. 6000 as it is the liability for the company / corporation to pay to stockholder / shareholders for dividend declared. So, it is added to the liabilities. Dividend is increasing as it will be paid to shareholders from retained earnings as its usual or normal balance is debit so it is deducted from retained earnings which is the part of equity account, so dividend of Rs. 6000 is deducted from equity here, so the accounting remains in balance.

The second entry is related to dividend paid for cash. In such Transaction, the Cash is decreasing by Rs. 6000 as it is going out of the business, so we deduct it from assets side of the accounting equation. On the right side of the accounting equation, the current liability “dividend payable” is closed as it is actually paid off by the company, so it is deducted from liabilities as it now has unusual debit balance. This transaction affects both the left side and right side of the accounting equation. After the effect of cash dividend paid journal entry, still the accounting equation is in balance.