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Preference shares provide an example of the distinction between financial liabilities and equity made by IAS 32 and Section 22 of New UK GAAP. »Ê¹ÚÌåÓýapp issuer must consider whether it has a contractual obligation to transfer cash or other financial assets to the holder of the share.

For example, if under its terms of issue a preference share is mandatorily redeemable on a certain date, the issuing company has a contractual obligation. »Ê¹ÚÌåÓýapp preference share will therefore be a financial liability, not an equity instrument.

If the preference share is non-redeemable, but the company has a contractual obligation to pay a dividend, there is a financial liability in respect of the dividends. This will lead to a ‘split accounting� treatment, whereby the net present value of the obligation to pay dividends would be shown as a liability, and the balance of the issue proceeds as equity. It is likely, however, in such a situation that the entire issue proceeds will be classified as a financial liability. If, however, payment of a dividend is solely at the discretion of the directors (whether or not unpaid dividends accumulate), there is no contractual obligation to make a payment and the preference share should be classified as an equity instrument.

Where a preference share is classified as a financial liability, the preference dividend paid will be shown as ‘interest� in the company’s income statement see CFM21220. This does not, however, affect the tax treatment of such dividends.