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ACCA Applied Skills · Corporate and Business Law (Global) · Capital maintenance and dividend law

Orlin Ltd has a capital redemption reserve created when it redeemed shares out of profits. A director suggests using this reserve to fund a cash dividend because it appears as a reserve in the statement of financial position. What is the correct position?

The capital redemption reserve is non-distributable. It is created to replace capital lost when shares are redeemed from profits, so creditors keep the same protection. It cannot fund dividends, though it may be used to pay up bonus shares.

  1. AThe reserve is distributable because all reserves can be paid as dividends
  2. BThe reserve may be paid as a dividend with approval by ordinary resolution
  3. CThe reserve is non-distributable, because it replaces capital lost when shares were redeemed from profits, but may be used to issue bonus sharesCorrect
  4. DThe reserve may be distributed only if the company has no creditors

Explanation

When shares are redeemed out of distributable profits, a capital redemption reserve is created to maintain the capital base. It is therefore not available for dividends. Typically it may be applied to pay up bonus shares. Calling it a 'reserve' does not make it distributable, and a members' resolution cannot change this.

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