Key Takeaways
- Directors can be held personally liable for illegal dividends paid when the company had no distributable reserves or profits at the time of the payment.
- Paying dividends without sufficient distributable reserves is a breach of company law and can trigger demands for repayment from both directors and shareholders.
- If a director knew or ought to have known the company lacked distributable reserves, the law may require personal repayment of the unlawful dividend.
- Shareholders who receive illegal dividends may also have to return those funds if they knew or had reasonable grounds to believe the payment was unlawful.
- Ignoring the issue can lead to court claims, director disqualification, personal liability, and problems if the company enters insolvency or liquidation.
- Directors are entitled to rely on expert advice, but reliance must be reasonable and based on accurate, up-to-date financial information.
- If you discover an illegal dividend, act quickly and seek advice as directors may have a defence if they took reasonable steps to inform themselves and rectify mistakes promptly.
- Time limits may apply for taking legal action or corrective steps, so it is vital to get specialist advice early to protect your position.
- Our solicitors are experienced in defending directors, recovering funds, and advising on all aspects of dividend law and company disputes in England and Wales.
If you are concerned about a past dividend or want to minimise your exposure as a director, you can speak to one of our solicitors by booking a free consultation or calling 0207 459 4037.
When Can a Director Be Held Personally Liable for Illegal Dividends Paid Without Distributable Reserves?
A company director can be personally liable for unlawful dividends paid when there were no distributable reserves, but liability is not automatic. Courts consider what the director actually knew, or ought reasonably to have known, about the company’s profits and the legality of the dividend at the time. This is known as a “fault-based” test. If directors took all proper steps to check their company’s finances and still got it wrong, they may avoid personal liability. But if they ignored warning signs or failed to make reasonable enquiries, they could be required to repay the missing funds.
What Is an Unlawful or Illegal Dividend in England and Wales?
An unlawful or illegal dividend, also called an “unlawful distribution”, is a payment made to shareholders when the company does not have enough distributable reserves (that is, profits which company law allows to be paid out as dividends). In England and Wales, dividends can only be paid from these available profits. If directors authorise dividends when there are not enough distributable reserves, the payment is unlawful.
What Counts as ‘Distributable Reserves’ When Paying Dividends?
Distributable reserves are the company’s realised profits that are legally available to pay out as dividends. These do not include all forms of money, assets, or notional profits. A company may have cash or valuable assets but still lack sufficient distributable reserves if its accounts show cumulative losses or profits are locked in accounts that cannot be distributed.
How Are Distributable Reserves Calculated?
Distributable reserves are calculated based on the company’s properly prepared and up-to-date accounts, usually the annual audited accounts or interim accounts drawn up with professional care. Directors must be satisfied, at the time of proposing or approving a dividend, that the accounts actually show sufficient profits available for distribution. Relying on outdated, draft or “management” figures increases the risk that a dividend will later be found unlawful.
What Are ‘Undistributable Reserves’ and Why Are They Excluded?
Undistributable reserves are profits or accounts within a company that the law prevents from being paid out as dividends. Examples can include the share premium account, capital redemption reserve, or profits restricted by statute or the company’s articles of association.
How Do Dividends Become Unlawful?
A dividend becomes unlawful if it is paid out of insufficient distributable reserves, is not supported by the company’s accounts, or if proper procedures for authorising the dividend are not followed. Payments made on the basis of estimates, forecasts, or outdated numbers, rather than rigorous, current accounts, are especially at risk.
Who Decides if a Dividend Is Lawful?
The board of directors decides whether a dividend is lawful, but every individual director must satisfy themselves that the company has sufficient distributable reserves before approving a payment.
When Can a Director Be Held Personally Liable for an Illegal Dividend?
A director can be made personally liable for an illegal dividend if they knew or ought to have known that the dividend was unlawful at the time it was paid. The courts look at whether the director had actual knowledge of the shortage of reserves, or whether a reasonably competent director in the same position should have realised the issue.
Is Director Liability Automatic for Unlawful Dividends?
Director liability is not automatic in England and Wales. Courts focus on whether the director was at fault, considering their knowledge, diligence, and actions. Directors who took every reasonable step to satisfy themselves the dividend was lawful—such as commissioning proper accounts, asking probing questions, or seeking external advice—are unlikely to be found personally liable if it turns out there were insufficient reserves.
What Is the Fault-Based Test for Director Liability?
Courts use a fault-based test, asking:
- Did the director know, or should a reasonably diligent director have known, that the dividend was unlawful?
- Did the director take reasonable care to ensure proper accounts were prepared and reviewed?
- Did the director act in good faith or rely reasonably on professional advice?
- Were all board discussions properly recorded?
Does Relying on Accountants or Professional Advice Provide a Defence?
Relying on professional advice from an accountant or solicitor can form a defence to director liability, but only if:
- The advice was competent and relevant,
- The director reasonably believed the professional had all the necessary information, and
- The director did not ignore warning signs or “red flags”.
If you are unsure whether advice taken at the time will protect you, you can speak to our lawyers for strategic guidance.
You may also find our article on Understanding Professional Negligence Claims Against Solicitors useful.
How Do Courts Assess Whether a Director Took Reasonable Care?
Courts look at the steps a director took to evaluate the company’s reserves and the lawfulness of dividends. The key question: Would a reasonably attentive and competent director, in the same role, have spotted the issue or taken further steps?
What Evidence Do Courts Look For?
Courts consider a range of documentary and factual evidence including:
- The company’s full, finalised accounts (not just management projections)
- Board minutes showing active questioning about reserves
- Emails or documents recording advice sought and the sharing of information with advisers
- Records of discussions about risks or doubts
What if a Director Was Not Involved in the Dividend Decision?
If a director was not present for or aware of the dividend authorisation, their liability is not automatically avoided. The legal duty applies to all directors, not just those who proposed or voted on the dividend. Courts will look to see if a passive director met their obligations to keep informed and to challenge unusual proposals.
What Happens If Only Part of a Dividend Was Unlawful?
If a dividend exceeds distributable reserves by only part of the payment—such as where profits were overestimated—the directors’ personal liability is usually limited to the “excess” or shortfall, not the whole sum.
If you are facing claims for an unlawful dividend, you can speak to one of our expert lawyers to assess whether you are only exposed for part of the amount, and to help reduce your liability.
Can Shareholders Be Forced to Repay Illegal Dividends?
Shareholders can sometimes be required to repay unlawful dividends, typically only if they knew or ought to have known about the lack of sufficient distributable reserves at the time of payment. Simply receiving an unlawful dividend does not automatically make a shareholder liable to repay it—knowledge of the impropriety is key.
When Are Shareholders Liable to Repay?
Shareholder liability depends on their knowledge and involvement. If a shareholder is not also a director and did not know the reserves were insufficient, courts rarely order repayment. However, if the facts show the shareholder was complicit or had access to relevant information, repayment may be ordered.
If you have been asked to repay a dividend, our lawyers can provide clarity on your actual risk under current law.
What Should a Director Do If an Illegal Dividend Is Discovered? (Step-by-Step Guide)
If an unlawful dividend is discovered, acting quickly and openly can reduce potential liability and reputational harm. The following steps outline an effective response:
- Identify the size and reason for the shortfall or error in distributable reserves.
- Gather all relevant evidence—accounts, board papers, correspondence, and any professional advice received.
- Seek advice immediately from an experienced solicitor specialising in director liability or insolvency.
- Consider rectification options, such as directors or shareholders repaying amounts, or restating company accounts.
- Notify all board members and keep Companies House records up to date if changes are made as a result.
- Act swiftly to demonstrate good faith and reduce the potential for director disqualification or claims in insolvency.
If you are facing this scenario, you may also find our guide on Professional Negligence Claim for Undervalue Settlement helpful.
What Are the Risks If a Director Ignores an Unlawful Dividend?
Directors who ignore news of an unlawful dividend risk significant legal, financial and reputational consequences. These can include:
- Being ordered to repay the unlawful amount (wholly or partly)
- Director disqualification proceedings
- Claims brought by liquidators or administrators if the company becomes insolvent
- Damaged stakeholder trust and loss of future directorship opportunities
Consequences for Directors: Repayment, Disqualification and Litigation
Once a dividend is found to be unlawful, creditors, insolvency professionals, or the company itself may investigate and claim repayment from the responsible directors. In serious cases, the Insolvency Service may pursue disqualification.
What Happens in Insolvency or Liquidation?
If a company enters insolvency or liquidation, unpaid creditors or the appointed insolvency practitioner are empowered to scrutinise prior dividend payments. Unlawful dividends paid in the lead up to insolvency may become recoverable from directors who failed to take reasonable care.
How Are Unlawful Dividend Claims Brought? (Litigation and Evidence)
Who Can Bring a Claim Against Directors or Shareholders?
Claims concerning unlawful dividends may be brought by the company itself, creditors (especially in insolvency), or by an insolvency practitioner such as a liquidator or administrator appointed to manage the company’s affairs.
What Defences Can Directors Raise?
Directors can defend claims by demonstrating:
- They genuinely did not know, and could not reasonably have known, about the shortage of reserves
- They took all reasonable care to check the accounts and lawfulness of the dividend
- They relied appropriately and in good faith on professional advice, with all facts disclosed
- They acted transparently, keeping the board fully informed and retaining robust records
- They rectified the unlawful payment promptly upon discovery
What Evidence Supports (or Undermines) a Director’s Position?
The following are key in court proceedings:
- Emails and board minutes detailing director queries about reserves or dividend lawfulness
- Professional advice sought before the dividend decision
- Diligent responses to any concerns or discrepancies in company accounts
- Written evidence the director relied on accurate information and not assumptions
Our Winning Approach to Unlawful Dividend Disputes
Our solicitors have broad experience guiding directors, shareholders, and companies through all aspects of unlawful dividend allegations. Our approach includes:
- Strategic advice focused on minimising exposure for directors and shareholders
- Careful analysis of board procedures, reserve calculations, and professional advice
- Gathering and presenting evidence to prove reasonable care and adherence to duties
- Robust negotiation for restitution or rectification where appropriate
- Experienced representation for clients facing liquidator claims, director disqualification or creditor action
- Advising SMEs, owner-managed businesses, and listed companies on tailoring internal processes
- Ongoing, transparent communication throughout the dispute-resolution process
Speak to one of our solicitors for clear, actionable guidance on director liability risk and how to robustly defend your position.
Frequently Asked Questions
Can a director be personally liable even if they made an honest mistake about reserves?
Yes, if the mistake was one that a reasonably careful director would not have made. The courts assess liability based on what the director did to check the facts and law. A genuine mistake with evidence of proper steps may protect a director, but neglect or carelessness may still expose them to claims.
What is the difference between an illegal and an unlawful dividend?
These terms are often used interchangeably in England and Wales. Both refer to dividends paid in breach of the company law rules on available profits, not based on criminality.
If my accountant said it was legal, can I still be liable as a director?
Yes. While reliance on professional advice supports a defence, it only helps if the advice was competent, all relevant facts were disclosed, and you acted in good faith. Ultimate responsibility remains with every director.
Can director liability be limited if only some directors voted for the dividend?
All directors, whether involved in voting or not, have a duty to keep informed and take reasonable steps. Absence may reduce risk, but does not automatically avoid liability.
Are group profits relevant when deciding if reserves are sufficient for a dividend?
No. Only the individual company’s distributable reserves, as shown in its own accounts, are relevant when declaring a dividend.
Can shareholders be forced to repay an unlawful dividend if the company goes into liquidation?
Yes, but usually only if they had knowledge (or should have had knowledge) that the dividend was unlawful at the time.
What records should directors keep to protect themselves before authorising dividends?
Directors should keep copies of full and interim accounts, board minutes recording reserve checks and advice sought, and all correspondence with accountants or advisers about the dividend.
Can I fix an illegal dividend after the payment has already been made?
Yes. Timely action, such as arranging repayment or correcting accounts, can limit further liability and may avoid court proceedings.
What happens to directors who ignore unlawful dividend claims?
Directors who ignore such claims risk court proceedings, orders to repay unlawful amounts, and in serious cases, disqualification as a director.
Who decides if a director took enough reasonable care to avoid liability?
Ultimately, the courts decide, based on all the evidence available, whether a director acted as a reasonably competent and diligent director would have done.
Speak to a Director Liability Solicitor Today
If you are facing questions about unlawful dividends, director liability or shareholder repayment, our solicitors are ready to advise on your position and protect your interests.
Get Specialist Advice on Director Liability for Illegal Dividends
Understanding when a director can be personally liable for dividends wrongly paid without distributable reserves is crucial for protecting your position and your company. Courts in England and Wales apply a fault-based approach—directors who ignore warning signs or fail to take reasonable care can face claims for repayment, while those who show diligence and good faith are much better placed to defend themselves. Acting without proper financial checks or advice exposes you to unnecessary risk and delay can make matters worse, especially if insolvency or liquidators become involved.
