Dividends ‑ Declaration of ‑ Transfer to reserves of certain percentage of profits ‑ Queries arising from the Companies (Transfer of Profits to Reserves) Rules, 1975 and the Companies (Declaration of Dividend out of Reserves) Rules, 1975 - Companies Law - Letter: No. 6/15/75‑CL‑XIV,

Letter: No. 6/15/75 ‑CL ‑ XIV, dated 3-8-1976. Subject:- Dividends ‑ Declaration of ‑ Transfer to reserves of certain percentage of profits ‑ Queries arising from the Companies (Transfer of Profits to Reserves) Rules, 1975 and the Companies (Declaration of Dividend out of Reserves) Rules, 1975 answered Query: On a plain reading of rule 2, it appears that no obligation is cast on companies to transfer any amount from its current profits to reserves if the dividend proposed is 10 per cent or less of the paid‑up capital. Please confirm. Rule 3 goes much beyond the substantive part of the parent Act, i.e., section 205(2A) and, as such, no conditions should be laid down in case of those companies desiring to transfer more than 10 per cent of their current profits to reserves. Quite apart from this, the clause penalises prudent management. If because of future expansion or diversification or because of expectation of a lower profit in future, a company desires to distribute dividend at a rate lower than the average rate of dividend declared for the immediately preceding three years, which prudent management may wish to do, then the company would be committing a breach of the rules. It would also be difficult for companies to maintain the rate of dividend calculated at the average rate of dividend declared by the company for the three years immediately preceding the current year, where the capital base has been increased on account of issue of bonus/right shares. Answer: In regard to the Transfer of Profits to Reserves Rules, the presumption made in (a) above is confirmed. As for item (b) goes, contention that clause 3 of the Rules goes much beyond the substantive part of the section, namely, section 205(2A) is not correct. The object of the legislation is to effect a harmonious blending between the interests of capital formation and to ensure equitable return to the shareholders. While there is no requirement of transferring any amount to reserves if the dividend is declared up to 10 per cent for declaring dividend over this percentage and not exceeding 20 per cent there is a requirement to compulsorily transfer a prescribed percentage to the reserves as laid down in rule 2. In cases where the company wishes to transfer more than 10 per cent of profits to reserves in a year, it can do so after complying with the provisions of rule 3 which has now been reworded under the Amendment Rules, 1976.