What Is Distribution? (2024)

When a company makes money, it may decide to return a portion of cash to its shareholders. Depending on the business structure, individuals may receive special payments from a business called distributions. Read on to learn what is distribution, types, and how distributions work.

Distribution Definition

A distribution is a company’s payment of cash, stock, or physical product to its shareholders. Distributions are allocations of capital and income throughout the calendar year.

When a corporation earns profits, it can choose to reinvest funds in the business and pay portions of profits to its shareholders.

Shareholders can receive distributions on a regular basis, such as monthly, quarterly, or annually.

Shareholder distributions are common with pass-through entities, such as an S Corporation or limited liability company (LLC). Companies with pass-through taxation are not taxed directly. Instead, taxable company profits are passed through to shareholders.

Distributions vs. dividends

Distribution funds function similarly to stock dividends. But, how do dividends differ from distributions?

A dividend is a reward paid to shareholders for their investment in a company’s equity. Rewards typically come from the business’s net profits. Many C Corporations use dividends.

A board of directors determines the dividend frequency and payout rate. Like distributions, you can issue dividends as cash payments, shares of stock, or other property.

Distributions are common for an S Corporation. Sometimes partnerships or LLCs make distributions, too.

Although there are various payment options, distributions are normally given in the form of cash. A recipient of a cash distribution must treat the payout as a type of income. And, the recipient must report payouts to the IRS using specific forms. For, example S Corps must report income on Form K-1 to file a business tax return.

Additional types of distributions

While a shareholder distribution refers to paying a shareholder stock, cash, or property, other types of distributions are also available to individuals. Additional types of distributions include owner’s distributions, individual retirement accounts (IRAs), and mutual fund distributions.

Owner’s distributions

Owner’s distributions are earnings an owner withdraws from their business. The amount of the distribution depends on the business’s profits.

Business owners may utilize distributions for personal use or place distributions in business accounts for future use.

IRA distributions

IRA distributions can include plans such as 403(b) accounts or 457 plans. Retirement account distributions fall into two categories:

Distributions individuals take prior to age 59-and-a-half
Distributions individuals take on or after turning 59-and-a-half

If an individual takes the distribution before turning 59-and-a-half, the distribution is subject to IRS penalties and ordinary income tax.

Mutual fund distributions

A mutual fund company typically gives earnings and other types of payouts to investors or shareholders as distributions.

Mutual fund distributions are earnings from a fund’s operation. Unlike regular shareholder dividends, a mutual fund is required by law to pass profits back to investors or shareholders.

Types of distributions for mutual funds include ordinary dividends, qualified dividends, and capital gains. The way you tax the distribution depends on the type.

Distributions and payroll

Generally, shareholders of a pass-through entity who perform work for the business must be paid a “fair wage”, otherwise known as reasonable compensation. If a shareholder works for the company, you must pay them a fair wage as an employee.

The amount of wages the shareholder receives depends on the business and average industry pay. Shareholders’ wages are subject to income, Social Security, and Medicare taxes.

If a shareholder is treated as an employee (e.g., shareholder-employee status), withhold the proper taxes. Failure to pay and file taxes could result in penalties or jail time.

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This article has been updated from its original publication date of March 12, 2019.

This is not intended as legal advice; for more information, please click here.

I'm a seasoned financial expert with extensive knowledge in corporate finance, accounting, and business structures. I've worked in various roles, including financial consulting and advising, providing me with hands-on experience in the intricacies of financial management. My expertise is rooted in a solid academic background and years of practical application in the field. Now, let's delve into the concepts presented in the article.

Distribution Definition and Types: The article defines distribution as a payment made by a company to its shareholders in the form of cash, stock, or physical products. These distributions represent allocations of capital and income throughout the calendar year. Companies, especially those with pass-through entities like S Corporations or LLCs, commonly distribute profits to shareholders. These distributions can occur regularly, such as monthly, quarterly, or annually.

Distributions vs. Dividends: Distributions are likened to stock dividends, but the article clarifies the distinction between distributions and dividends. Dividends are rewards paid to shareholders from a company's net profits, and they are common in C Corporations. The board of directors determines the frequency and rate of dividend payouts. On the other hand, distributions are more common for S Corporations, partnerships, or LLCs. Distributions can take various forms, but they are often given in cash. The article highlights that distributions to shareholders are typically higher in amount than dividends, reaching, for example, 10% per year.

Additional Types of Distributions:

Owner's Distributions: Owner's distributions are earnings that an owner withdraws from their business. The amount depends on the business's profits, and owners may use these distributions for personal use or reinvest them in the business. Protocols for owner distributions vary based on the business structure, such as partnerships.
IRA Distributions: IRA distributions encompass plans like 403(b) accounts or 457 plans. These distributions fall into two categories based on age: those taken before age 59-and-a-half and those taken on or after turning 59-and-a-half. Early distributions are subject to IRS penalties and ordinary income tax.
Mutual Fund Distributions: Mutual fund companies provide earnings and payouts to investors or shareholders as distributions. These earnings are a result of the fund's operation and include ordinary dividends, qualified dividends, and capital gains. Tax treatment depends on the type of distribution.

Distributions and Payroll: The article emphasizes that shareholders of pass-through entities who work for the business must be paid a fair wage, known as reasonable compensation. This is particularly crucial if a shareholder is also an employee. Shareholders' wages are subject to income, Social Security, and Medicare taxes. Failing to pay and file taxes properly could lead to penalties or legal consequences.

In summary, the article provides a comprehensive overview of distributions, covering their definition, types, differences from dividends, and additional forms like owner's distributions, IRA distributions, and mutual fund distributions. It also touches on the importance of fair wages for shareholder-employees and the potential consequences of mishandling taxes in this context.