The Companies Act 2006 allows a private company to utilise the share premium account and transfer this reserve to the profit and loss reserve, meaning it becomes distributable.
A share premium account can be used to write off certain expenses, such as the cost of underwriting, commissions paid, and certain discounts. The accounts can also be used to issue bonus shares.
The share premium account or the securities premium account cannot be distributed as dividends but can be used for the following reasons: To issue the bonus shares. Companies issue such shares to compensate the shareholders with a higher dividend payout in the form of stocks.
You can reduce the share premium account to zero. You can also reduce the capital redemption reserves and redenomination reserve to zero. The capital can be paid back to the shareholders and must be repaid at par value. You cannot repay share capital at a premium or repay at less than the nominal value.
In accounting terms, any share premium must be transferred into a separate share premium account. Whilst share premium is not distributable, it can be reduced or cancelled in the same way as share capital under the Companies Act 2006.
Securities premium cannot be used as working capital.
In accordance with article 3 of the Companies (Reduction of Share Capital) Order (SI 2008/1915), the reserve created on such reduction can be treated as a realised profit and, therefore, it may be distributed to shareholders or used to buy back shares.
A limited company issued 800 Equity Shares of ₹ 100 each at a premium of 25% as fully paid-up in consideration of the purchase of plant and machinery of ₹ 1,00,000.
…
| Equity Shares | Preference Shares | |
|---|---|---|
| On Application | Rs 3 per share | Rs 3 per share |
| On Allotment | Rs 5 per share | Rs 4 per share |
| (including a premium) |
As per common sense Share premium is not ‘profit’ or ‘gain’:
Share premium is capital receipt and contributed as such by the shareholders. The amount of premium is neither ‘profit’ nor ‘gain’ of the company, it is capital receipt to be accounted for as share premium.
Share Capital and Share Premium are major components of equity. The key difference between share capital and share premium is that while share capital is the equity generated through the issue of shares at face value, share premium is the value received for shares that exceed the face value.
Who can distribute dividend?
All the companies which have share capital other than section 25 companies and make profit are bound by law to declare and distribute dividends. As per Section 205 of the Companies Act, 1956, a dividend (including interim dividend) can be paid out of current profits or profits accumulated of earlier years.