Understanding Share Forfeiture

When a company allots shares, it rarely collects the full face value in one shot. Payment usually comes in stages: on application, on allotment, and through one or more calls. If a shareholder fails to pay any of these instalments even after due notice, the company has the right to cancel that allotment entirely. This is called forfeiture of shares, and it is one of the more practical topics in accounting for share capital, because it sits at the intersection of company law, journal entries, and the company’s overall capital structure.

What forfeiture of shares actually means 🔗

Forfeiture of shares refers to the cancellation of shares held by a member who has not paid the amount due on allotment or on a call, within the time specified by the company. Once the board passes a forfeiture resolution, the shareholder loses membership rights, and any amount already paid by them is retained by the company rather than refunded. As explained by GeeksforGeeks, a company can forfeit shares only if its Articles of Association permit it, and the prescribed procedure must be followed strictly.

It helps to see forfeiture as a disciplinary tool rather than a punitive one. Companies plan their cash flow around calls being paid on time, and a defaulting shareholder disrupts that plan. Forfeiture lets the company reclaim the shares and reissue them to someone who will pay, instead of being stuck with a partly funded shareholder indefinitely.

The legal basis: what the Companies Act actually says 🔗

Here is something most students find surprising: the Companies Act, 2013 does not contain a dedicated section that lays down the forfeiture procedure step by step. Instead, the framework comes from Table F of Schedule I to the Act, specifically Regulations 28 to 34, which most companies adopt into their own Articles of Association. If a company’s AoA is silent on forfeiture, these model regulations apply by default.

This also means forfeiture is only valid for non-payment of a call or an instalment on a call. A company cannot forfeit shares simply because a member owes it money on some unrelated matter, unless the Articles specifically extend that power, as legal commentary on Indian company law notes.

Notice before forfeiture 🔗

Forfeiture cannot happen overnight. The board must first serve a formal notice on the defaulting shareholder, stating the unpaid amount along with any interest, giving at least fourteen days to pay, and warning that the shares will be forfeited if payment is not received by that date. Legal analysis of this provision stresses that this power must be exercised in good faith and strictly according to the Articles, since forfeiture effectively strips a person of their property.

Accounting treatment: reversing the original entries 🔗

From an accounting point of view, forfeiture essentially reverses the entries made when the shares were originally issued. When shares are allotted, the Share Capital account is credited with the amount called up. On forfeiture, that same account is debited, because the company is cancelling the portion of capital that was never actually paid.

Forfeiture of shares issued at par 🔗

When shares were issued at face value, the entry is straightforward. Share Capital account is debited with the called-up value of the forfeited shares. The relevant unpaid account, such as Share Allotment or Share Call, is credited with the amount not received. The balancing figure, representing the amount already paid by the shareholder, is credited to the Share Forfeited account.

Forfeiture of shares issued at a premium 🔗

This gets a little more nuanced. If the premium on those shares had already been received before the default, it cannot be cancelled or reversed, since securities premium, once collected, belongs to the company. But if the premium itself was part of the unpaid instalment, the Securities Premium account is debited to cancel the entry made at the time of allotment. Practical examples in accounting references illustrate this distinction well: the treatment depends entirely on whether the premium money physically reached the company before forfeiture.

What happens to share capital and the balance sheet 🔗

Forfeiture reduces the company’s issued and called-up share capital by the nominal value of the shares cancelled, at least temporarily. The amount forfeited is not treated as income; it sits in the Share Forfeited account, shown on the liabilities side, until the shares are reissued or the balance is dealt with otherwise. This account essentially represents a reserve created out of the shareholder’s forfeited payments, and it exists as a distinct line item until the company decides what to do with those shares.

Reissue of forfeited shares 🔗

Forfeited shares rarely sit idle. Companies almost always reissue them, often to new investors, and frequently at a discount, since the whole point is to recover the funding gap left by the defaulting shareholder. The reissue price can be at par, at a premium, or at a discount, but the discount allowed on reissue cannot exceed the amount already forfeited on those specific shares.

When shares are reissued at a discount, that discount is adjusted against the Share Forfeited account. Bank account is debited with the amount actually received from the new shareholder, the discount on reissue is debited to the Share Forfeited account, and Share Capital is credited with the full nominal value, since the shares must show as fully paid once reissued.

Transferring the leftover balance 🔗

Once the shares are reissued, there is often a leftover balance in the Share Forfeited account, specifically the portion relating to the reissued shares, that was not needed to cover the discount. This surplus is a capital gain for the company, since it represents money retained from the original defaulting shareholder over and above what was needed to make the shares fully paid again. It is transferred to the Capital Reserve account, which is why forfeiture and reissue, taken together, can actually strengthen a company’s reserves rather than weaken them.

A worked example 🔗

Suppose Meridian Ltd issued 2,000 equity shares of ₹10 each at a premium of ₹2, payable as ₹3 on application, ₹5 on allotment (including the full premium), and ₹4 on the first and final call. A shareholder holding 100 shares paid application and allotment money but failed to pay the call. The board forfeited these shares after due notice.

Notice that the securities premium of ₹200 collected at allotment stays untouched throughout, since it was already received before default. Only the called-up value and the unpaid call are involved in the forfeiture entry itself.

Common mistakes students make 🔗

A few errors show up repeatedly in exam answers and even in practice. Students often cancel securities premium that was already received, which is incorrect since collected premium cannot be reversed. Another frequent slip is crediting Share Forfeited account with the called-up value instead of only the amount actually received from the shareholder. Some also forget that the discount allowed on reissue can never exceed the amount forfeited on those particular shares, not the average forfeiture across all shares.

Why this topic matters beyond exams 🔗

Understanding forfeiture is not just about passing journal entries correctly. It reflects how companies manage capital discipline, protect their financial base against defaulting members, and still find a route to convert a setback into usable reserves through reissue. For anyone studying corporate accounting, this topic connects company law procedure with real balance sheet consequences, which is exactly the kind of link examiners like to test.

What do you think? If a company reissues forfeited shares at a price higher than what was originally due, should the entire gain go to Capital Reserve, or would investors be better served if some of it were passed back to shareholders in some form? And how would you explain to a first-time investor why the money they already paid on defaulted shares isn’t refunded?

References

1. https://www.geeksforgeeks.org/accountancy/accounting-entries-on-re-issue-of-forfeited-shares/
2. http://ebook.mca.gov.in/Actpagedisplay.aspx?PAGENAME=23277
3. https://www.mondaq.com/india/shareholders/1453670/critically-analyse-about-forfeiture-of-shares-under-indian-company
4. https://blog.ipleaders.in/forfeiture-shares-effects/