The primary purpose of laws prohibiting a firm from paying dividends that include its legal capital is to:
A) reduce investors' tax liability.
B) ensure that the balance sheet balances.
C) prevent managers from paying out a substantial proportion of the firm's assets.
D) prevent managers from paying large dividends.

Question

Quizplus · Accepted Answer

The primary purpose of laws prohibiting a firm from paying dividends that include its legal capital is to prevent managers from paying out a substantial proportion of the firm's assets. Legal capital is a part of the firm's equity that is not available for distribution as dividends because it is the minimum amount of capital required by law to be maintained by the firm. By preventing the use of legal capital for dividends, these laws ensure that the firm has sufficient capital to meet its obligations and protect the interests of creditors and other stakeholders.

The Primary Purpose of Laws Prohibiting a Firm from Paying