How to Pay Dividends on Preferred Stocks

Preferred stockholders have preference over common stockholders in bankruptcy proceedings.

Dividends become payable once the board of directors formally announces its intent to pay dividends, usually through a press release posted on the company's investor relations website. Preferred stockholders have preference over common stockholders when it comes to dividend payments, meaning common stockholders cannot receive dividends unless all preferred dividends are paid. Preferred dividends are usually stated as an annual percentage of the par value (issuing price) per preferred share.

Instructions

1. Get the preferred stock dividend rate. For example, if a company has issued 4.25 percent preferred stock with a par value of $20, preferred stockholders will receive annual dividends of $0.85 ($20 x 0.0425) per preferred share.

2. Record the dividend declaration by decreasing (debiting) the retained earnings account and increasing (crediting) the dividends payable account. Note that these journal entries are made on the date the board declares the dividend, which is the declaration date. The board will also declare a record date (stockholders as of that date are eligible to receive dividends) and a payment date (the date on which the cash dividend payments are made).

   To continue the example, if the board issues the following statement on Sept. 1: "On Aug. 20, the board of directors approved regular preferred dividends on Nov. 1 to preferred stockholders of record on Oct. 1," then on Sept. 1, the declaration date, debit the retained earnings account and credit the dividends payable account by $85 (100 x $0.85) each. (This assumes there are 100 preferred shares outstanding.) In this example, Oct. 1 and Nov. 1 are the record and payment dates, respectively.

3. Record the dividend payment by decreasing (debiting) the dividends payable account and increasing (crediting) the cash account. To wrap up the example, on Nov. 1, when the dividend payments are made, debit dividends payable and credit cash by $85 each.

Tips & Warnings

• Cumulative preferred stockholders are entitled to receive past due dividends plus the current year dividend before common stockholders are paid. Corporations are generally not required to declare and pay dividends each year. During economic downturns, for example, management may decide to conserve cash or deploy it more opportunistically to grow the business.

References

• Accounting Coach: Preferred Stock
• Cliffs Notes: Dividends