A stock dividend is the issuance by a corporation of its common stock to its common shareholders without any consideration. A dividend of this type is usually issued when a business does not have sufficient cash to spare for a normal dividend, but still wants to give the appearance of issuing a payment to its shareholders.
If a corporation issues less than 25 percent of the total amount of the number of previously outstanding shares as a dividend, this is considered a small stock dividend. If the issuance is for a greater proportion of the previously outstanding shares, then treat the transaction as a stock split.
When there is a stock dividend, you should transfer from retained earnings to the capital stock and additional paid-in capital accounts an amount equal to the fair value of the additional shares issued. The fair value of the additional shares issued is based on their market value after the dividend is declared. One effect of this transaction is that the amount of legal capital (the capital stock account) is increased by the par value of the additional shares issued; this amount can no longer be issued to shareholders as a dividend.
A stock dividend is never treated as a liability, since it does not reduce assets.
Small Stock Dividend Example
Frederick Engineering declares a stock dividend to its shareholders of 10,000 shares. The fair value of the stock is $5.00, and its par value is $1.00. Frederick records the following entry:
|Common stock, $1 par value||10,000|
|Additional paid-in capital||40,000|