Theimpact on the financial statement usually does not drive thedecision to choose between one of the stock dividend types or astock split. Large stock dividends and stock splits are done inan attempt to lower the market price of the stock so that it ismore affordable to potential investors. A small stock dividend isviewed by investors as a distribution of the company’s earnings.Both small and large stock dividends cause an increase in commonstock and a decrease to retained earnings.

Comparing Small Stock Dividends, Large Stock Dividends, and Stock Splits

The journal entry to distribute the soft drinks on January 14decreases both the Property Dividends Payable account (debit) andthe Cash account (credit). The journal entry to distribute the soft drinks on January 14 decreases both the Property Dividends Payable account (debit) and the Cash account (credit). The 8 slices of a typical pizza represent the shares of stock and the $2 cost per share is the par value of the stock. When I double cut the pizza, this represents a 2-1 stock split with 16 shares of stock (or slices of pizza) for the new par value of $1 per share. However, if this event is a stock dividend, the stock’s par or stated value will not change, but Retained Earnings will decrease and Common Stock will increase.

Stock Splits

If the company announces a 2-for-1 forward stock split, the number of shares will double to 2 million, while the par value per share will be halved to $0.50. The total par value of the shares remains unchanged at $1 million, ensuring that the equity section of the balance sheet reflects the new share count and par value accurately. Mutual funds can undergo splits, but they work differently than individual stock splits and occur less frequently. Mutual fund splits typically occur when the price per share is too high, making the fund less accessible to smaller investors. In a mutual fund split, the number of shares an investor owns increases while the net asset value per share decreases proportionally, just like a stock split. A reverse/forward stock split is a special stock split strategy to eliminate shareholders holding less than a certain number of shares.

FAR CPA Practice Questions: Journal Entries for Treasury Stock Transactions

One of the major objectives for a corporation to do a stock split is to reduce the market price of its shares. By reducing the market price, the corporation may attract new investors interested in owning stock at the decreased price. A company that lacks sufficient cash for a cash dividend may declare a stock dividend to satisfy its shareholders. Note that in the long run it may be more beneficial to the company and the shareholders to reinvest the capital in the business rather than paying a cash dividend. If so, the company would be more profitable and the shareholders would be rewarded with a higher stock price in the future. After a 2-for-1 stock split, an individual investor who had owned 1,000 shares might be elated at the prospect of suddenly being the owner of 2,000 shares.

• Ask a question about your financial situation providing as much detail as possible.
• After the distribution, the total stockholders’ equity remainsthe same as it was prior to the distribution.
• For small stock dividends, retained earnings are debited at the market value of the shares being issued, with credits to both the common stock and APIC accounts.
• For instance, in a 1-for-2 reverse split, shareholders receive one share for every two shares they previously owned, effectively reducing the number of shares by half while doubling the price per share.
• Since the number of outstanding shares has changed but the par value per share (or its equivalent) remains the same, there must be a credit to the capital stock account equal to the par value of the newly issued shares.

For a forward split, the number of shares should be multiplied by the split ratio, whereas for a reverse split, the number of shares should be divided by the split ratio. Errors in updating the share count can lead to discrepancies between the financial statements and the actual number of shares outstanding. When the stock split occurs, the company needs to adjust the number of shares and the par value per share.

Common Journal Entries for Stock Splits Under GAAP

Theseshareholders do not have to pay income taxes on stock dividendswhen they receive them; instead, they are taxed when the investorsells them in the future. A company’s board of directors has the power to formally vote todeclare dividends. On the other hand,stock dividends distribute additional shares of stock, and becausestock is part of equity and not what is payroll accounting how to do payroll journal entries an asset, stock dividends do notbecome liabilities when declared. Some companies issue shares of stock as a dividend rather than cash or property. This often occurs when the company has insufficient cash but wants to keep its investors happy. When a company issues a stock dividend, it distributes additional shares of stock to existing shareholders.

Figure 14.9 shows the stockholders’ equity section of Duratech’s balance sheet just prior to the stock declaration. Although shareholders will perceive very little difference between a stock dividend and stock split, the accounting for stock dividends is unique. Stock dividends are recorded by moving amounts from retained earnings to paid-in capital. A small stock dividend (generally less than 20-25% of the existing shares outstanding) is accounted for at market price on the date of declaration.

The subsequent distribution will reduce the Common StockDividends Distributable account with a debit and increase theCommon Stock account with a credit for the $9,000. The subsequent distribution will reduce the Common Stock Dividends Distributable account with a debit and increase the Common Stock account with a credit for the $9,000. Because the price of the firm’s stock is likely to fall to $30, the total market value of each stockholder’s investment immediately after the split will be about the same as it was before the split. While there has been no disagreement concerning the amount to be used or the account to be credited, accounting practice shows two different accounts being debited. As a compromise, the action can be described as a stock split effected in the form of a dividend. While none of these suggest entirely rational decisions by traders, a more prosaic and far less flattering depiction of investors is just that they don’t do math well.

A large stock dividend occurs when adistribution of stock to existing shareholders is greater than 25%of the total outstanding shares just before the distribution. Theaccounting for large stock dividends differs from that of smallstock dividends because a large dividend impacts the stock’s marketvalue per share. While there may be a subsequent change in themarket price of the stock after a small dividend, it is not asabrupt as that with a large dividend. Cash dividends are corporate earnings thatcompanies pass along to their shareholders. Second,the company must have sufficient retained earnings; that is, itmust have enough residual assets to cover the dividend such thatthe Retained Earnings account does not become a negative (debit)amount upon declaration. On the day the board of directors votes todeclare a cash dividend, a journal entry is required to record thedeclaration as a liability.