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How to calculate dividends from Liquidations


Posted 17th May 2018 by Roulon du Toit & filed under Taxation,

Students often find it difficult to answer a liquidation question. This should not be the case.

In order to answer a liquidation question you need to know how to calculate normal tax for a company. You are also required to understand the calculation and implications of dividends tax.

To calculate the dividend that is distributed by a company upon liquidation, there are two methods that could be considered:

  • Equity method
  • Asset method

The equity method is more commonly used and will be discussed here.

To understand the equity method, you need to remember the accounting equation that states:

Equity = Assets less Liabilities

To calculate the amount that is available for distribution to shareholders, we will calculate the closing balance of retained earnings.

The closing balance for retained earnings is calculated as:

Opening balance XXX
Plus: Accounting profit before tax XXX
Less: Tax payable (XXX)
Equals = Closing Balance XXX

We can thus easily break it down into the following steps:

Step 1: Calculate the opening balance

(Split between “Contributed Tax Capital” and Reserves)

Step 2: Calculate the accounting profit before tax
Step 3: Calculate the final tax for the company
Step 4: Calculate the closing balances

The Contributed Tax Capital is NOT a dividend

The reserves will be a dividend

Step 5: Calculate the dividends tax payable on the amount that is considered a dividend

In the video below we work through the following example. Please watch the video for the suggested solution.

EXAMPLE
The balance sheet of X (Pty) Ltd on 31 December 20×8 was as follows:
Account Note R
EQUITY AND LIABILITIES
Capital 1 5 000 000
Capital profits 2 000 000
Revenue profits 1 500 000
Trade creditors 150 000
Shareholder’s loan 2 650 000
9 300 000
ASSETS
Cash 3 100 000
Trading stock 4 400 000
Property, plant & equipment 3 5 800 000
9 300 000
NOTES:

1)      The capital represents 5 000 000 shares of R1 each. This is all capital raised by the company for selling its shares.

2)      The only shareholder is a South African resident. The shareholder lent R650 000 to the company 6 years ago.

3)      The property, plant and equipment consist of the following assets:

·         A vacant piece of land that the company purchased 6 years ago at a cost of R3 000 000. The company does not follow the revaluation model to value property, plant and equipment. During the liquidation process, the land was sold for R7 000 000.

·         A manufacturing machine that had a cost of R10 000 000 and an accumulated depreciation balance of R7 200 000. The machine was purchased new in 20×6 and brought into use at that date.  The machine was sold for R11 000 000 during the liquidation process.

4)      The trading stock had a cost of R400 000. At the time that the liquidation took place it had a market value of R740 000. It was sold for the market value.

The company was placed into liquidation on 2 January 20×9 and all distributions were made before 28 February 20×9. The company did not trade at all since 31 December 20×8.

The shareholder acquired the shares 7 years ago from a third party for R6 000 000.

YOU ARE REQUIRED TO:

1)      Calculate the amount that is available for distribution to the shareholders. Clearly indicate which part of the distribution is a dividend and which part is contributed tax capital.

2)      Calculate the dividends tax payable if the shareholder is a natural person.

3)      Calculate the dividends tax payable if the shareholder is a South African company

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