HMRC define a director’s loan as when you (or other close family members) get money from your company that is not:
• A salary, dividend, or expense repayment
• Money you have previously paid into or loaned the company
Records must be kept of any money you borrow from or pay into the company. These records are known as a director’s loan account (“DLA”).
Corporation tax on DLA
There are different tax implications depending on whether the DLA is overdrawn (i.e.: you owe the company money) or whether the DLA is in credit (i.e.: when the company owes you money) at the company’s financial year end.
If the DLA is overdrawn at the company year end, there is a tax charge on the company, known as the section 455 tax charge (“s455”). This tax charge can be avoided if the DLA is repaid in full within nine months and one day of the company’s year-end.
If the DLA is still overdrawn after this period, there is a s455 tax charge of 32.5% of the overdrawn amount, however this tax charge will be repaid to the company once the loan has been repaid. In order to reclaim the tax charge, you must contact HMRC within four years from the company year-end in which the repayment is made, or when the loan has been written off.
There is anti-avoidance legislation in place to stop directors from repaying the overdrawn amount at the payment deadline, and then withdrawing the same amount the following day. Known as Bed and Breakfasting, this is a term used to describe a situation where the director repays the loan in full, then immediately takes out another loan, with the intention of never paying it back.
A 30-day rule applies where, within a period of 30 days, a director makes a repayment of £5,000 of more and then further withdrawals are made from the company. A s455 tax charge is applicable on the lower of the amount repaid and the funds borrowed within a 30-day period. The Bed and Breakfasting rules will also apply where a director takes out a loan that is in excess of £15,000 and there is an intention to take out a further loan of £5,000 or more before any repayment is made.
If the DLA is in credit, then you can withdraw the funds with no tax consequences, but you need to ensure that your records are kept up to date to ensure that you do not become overdrawn. Should you choose to charge interest to the company on the loan, the interest counts as both a business expense to the company, and personal income to the director. The amount of interest received is reportable on the director’s self-assessment tax return, and the company must complete a form CT61 to report the interest payable to the director and pay the income tax at 20% to HMRC. The company will pay the director the interest net of tax.
These reporting obligations align with the financial year end.
Income Tax and NIC Reporting Obligations
In cases where the overdrawn DLA exceeds £10,000 at any point in the tax year (i.e. between 6 April and the following 5 April) and the interest on the loan is lower than the official interest rate, the loan is a benefit in kind to the director.
The benefit is reported on form P11D which must be completed and submitted to HMRC by 6 July following the end of the tax year.
The director will be required to pay income tax on the amount of loan benefit received, and the company will be required to pay Class 1A National Insurance on the loan benefit at 13.8%.
This can be mitigated by the company charging the HMRC official rate of interest on the loan. Currently the rate is 2%.
Where the company has sufficient distributable reserves to declare dividends and you ordinarily clear the DLA, it is worth considering the possibility of declaring the dividend while the DLA balance is less than £10,000 to create a credit. The director would then draw down on this credit throughout the tax year. If the DLA is used to provide regular drawings (say on a monthly basis) then we recommend you take specific advice to make this as tax efficient as possible.
These reporting obligations are in respect of the period 6 April to 5 April each year. Therefore, making adjustments when finalising year end accounts will have a knock-on impact for both the P11Ds and the director’s self-assessment tax return (both of which may already have been filed). Therefore, it is important that DLAs are kept up to date throughout the year so that you know the full DLA position on any given day (but in particular on 5 April each year ready for the P11D reporting).
Further implications
If the DLA is written off then the tax treatment depends on whether the director, to whom the loan is made to, is a shareholder or a non-shareholder.
If the loan is written off for a shareholder, the amount outstanding is classed as a distribution, and will therefore be subject to dividend tax rates for the shareholder. In some cases, Class 1 National Insurance should also be deducted through the company payroll.
If the loan written off relates to a non-shareholder, the amount written off is deemed to be employment income. This will need to be reported on the form P11D as an employer benefit and subject to income tax via the self-assessment tax return. Class 1 National Insurance could also be payable.
How can MHA help?
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