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The Groom company has 50,000 shares of $10 par value common stock outstanding when it declares a dividend of $1 per share. What would be the journal entry for the declaration of the cash dividends? Select one:
a. Debit: Dividends Payable - Common Stock 50,000 Credit: Cash 50,000
b. Debit: Cash Dividends 50,000 Credit: Dividends Payable - Common Stock 50,000
c. Debit: Cash 50,000 Credit: Cash Dividends 50,000
d. Debit: Cash Dividends 50,000 Credit: Cash 50,000

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Answer:

B) Debit: Cash Dividends 50,000 Credit: Dividends Payable - Common Stock 50,000

Explanation:

At the time of declaration of dividends the proper journal entry should be:

  • Dr Retained Earnings 50,000
  • Cr Dividends Payable - Common Stock 50,000

You can use the Cash Dividends account, which is a temporary account, although it's not the best option. This account is used only when companies have not been making a profit before (retained earnings = 0), or for new companies.  

Since no payment is done, the cash account is not affected (eliminating options A, C and D).

Dividends Payable is a liability account and since it increases, it should be debited.

Cash Dividends is a temporary equity account that is debited once the company declares the dividend distribution.

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