Dividend and interest are two terms used by corporates in accounting. A dividend is an amount paid by a company to all its shareholders with the profit it incurs annually. Interest is the sum that a borrower has agreed to pay along with the amount that he/she has borrowed from an individual/institution.
Dividend vs Interest
The main difference between Dividend and Interest is that dividend is the amount that is repaid to the shareholders proportionally from the profit gained whereas interest is the amount that is to be paid back to the lender along with the capital amount borrowed from them.
Dividend is the money paid to the investors and shareholders of a company from the profit it makes annually. It is by expecting this amount; a businessman invests in a firm. This profit is distributed is distributes among the investors proportionally according to the capital invested by them. Usually, a company is prohibited from distributing dividends from capital.
In the finance sector, interest is the amount that a borrower has to pay back to the lender along with the amount that is borrowed. Interest is a source of income for the lenders from the money they lend. Interest rates differ from firm to firm and they are divided into two – Simple interest and compound interest.
Comparison Table Between Dividend and Interest (in Tabular Form)
| Parameter of Comparison | Dividend | Interest |
|---|---|---|
| Focus | The dividend is the repayment of the amount gained from a firm by the financial support of investors. | Interest is the amount that is fixed by the lender as a fee for the amount he/she lends. |
| Charge | The money repaid is from profit earned. Hence there is no surety for the complete repayment of the money invested. | Interest is an added amount along with the capital invested. Hence the amount repaid is always higher than the amount lent. |
| Regulation | From the dividend amount, investors get an idea about the money they can reinvest in the firm. | From the interest amount, the borrower can pre-plan about the amount he/she has to repay. |
| Choice | As dividend is from profit amount, the firm doesn’t need to repay it. | The interest amount is fixed at the time of borrow and hence it is compulsory to repay it. |
| Calculation | There is no fixed formula for calculating the dividend. It is proportionally given to the shareholders according to the money invested by them. | Simple interest and compound interest are the two methods by which the interest amount is calculated. |
What is Dividend?
Dividend is the process of distribution of the profit amount of a company to its shareholders. It is paid only from the profit a firm makes. Hence the amount that is invested cannot be obtained back at one go. This process of distribution of dividend amount usually takes place annually. Sometimes the profit is not completely transferred as dividends and the amount is reinvested.
The distribution of profits can be by any means. Mostly the profit is distributed in cash and deposit amounts. Sometimes the firm may organize dividend reinvestment plans. Here the dividend amount goes into the investment of an underlying equity. Another method is by share repurchase where a part of the share is given back as dividends. Asset transfers can also be shared as dividends.
The person, who is eligible for dividends, has to pay tax to the government for collecting it. This tax amount is acquired from the stakes issued by the dividend tax. If a corporation pays dividends to its shareholders, no tax deductions are given to it. The amount paid as dividend tax differs from one country to another.
Dividends are the evidence of the development of a business. The more dividends a shareholder receives, the more amount of money he/she tends to reinvest. Although the method of payment differs, the amount that is to be paid is compensated proportionally from the profit earned and hence higher profit means higher dividend amount.
What is Interest?
Interest is the amount that is to be paid along with the principal amount after a certain period of borrowing. This amount is fixed by the lender at the time of lending the principal amount. Interest is an added income for the lender as it increases the amount they get back at the time of repayment. Since the rate increases as per a fixed margin, the interest amount should be carefully checked by the borrower before borrowing.
Interest is not a positive aspect for the borrower and hence the amount should be calculated beforehand. If the interest amount is too high, the borrower can be in debt as the amount to be repaid dynamically increases. Borrowing an amount is a high-risk business and hence most banks calculate the amount for their customers.
Interest can be calculated in detail by two methods- Simple interest and compound interest. It is the lender’s wish to choose between these two. In the case of simple interest, the interest amount remains the same irrespective of the time taken to repay. Compound interest increases when the time taken to repay the principal amount increases.
SI = P[1+ RT]
CI = P[1 + R/n]nt
where:
- SI = Simple Interest
- CI = Compound Interest
- P = Principal amount
- R = Interest rate
- T = Time period
- n = Number of time the interest is applied per period
- t = Number of periods elapsed
Main Differences Between Dividend and Interest
- Dividend is the profit amount that can be shared by all the investors of a company whereas interest is the amount that has to be repaid along with the principal amount lent.
- There is no surety about the profit of a company and hence the dividend cannot be promised. Interest is a promised amount whose rate is fixed at the time the money is lent.
- The dividend amount of a company is evidence for the growth of the company and hence investors tend to reinvest if profit is high. The interest rate is used for pre-planning the money that has to be repaid.
- The dividend amount is not from the capital investment and hence a high profit cannot be always expected by the investors. The interest amount acts as a fee for the principal amount lent and hence the lender is always profited.
- The dividend of an individual is paid back according to the money invested by him/her. The interest amount is calculated according to the fixed method among simple interest and compound interest.
Conclusion
The returns that investors expect from a firm are called the dividend of the firm. It is the profit amount from which the investors are paid back according to the amount they invest. Dividend can be shared only when a company runs in profit. This amount is not divided from the capital investment and hence there is no surety in case of dividend.
Interest amount is the added advantage that lenders expect from the amount they lend. It can be different according to the lenders. Banks offer a different rate from individual lenders. Hence there is always profit for the lenders if they lend a certain amount. It increases dynamically; so the amount should be repaid as soon as possible.
References
- https://www.oecd-ilibrary.org/taxation/taxation-of-dividend-interest-and-capital-gain-income_5k3wh96w246k-en
- https://serval.unil.ch/resource/serval:BIB_0AE104867012.P001/REF.pdf