Directors’ loans are loans made by businesses to shareholding directors. They’re a very popular way of extracting cash out of your business.

But beware – there are pitfalls and they can be expensive pitfalls.

In this article, Burton Beavan looks at director’s loan accounts and you.

Directors loan tax – lending your company money

A directors’ loan account can either be in credit or debit.

It’s in credit if the company owes you money. You may have decided to lend your company your own personal either at the point of setting up your business or to help it through a phase of growth.

There is no limit to how much you can lend to your business. You can charge your company interest on loans you make to it. If you do, you can deduct the interest on the loan from your profits reducing your corporation tax.

You may be subject to tax on any profit you make personally from the interest on the loans. However, do remember that if you’re a basic rate taxpayer, you can earn up to £1,000 a year interest with no need to pay any tax on it. For higher rate taxpayers, that allowance is £500. There is no allowance for additional rate taxpayers.

What if you want to borrow money from your company?

You can, and there’s no theoretical limit to the amount you can borrow. However, if you borrow so much that the effect of the loan pushes the company into insolvency at a later date, this is something that HMRC and the Insolvency Service would be interested in.

Director loan tax – borrowing money from your company and S.455

You can borrow money interest free from your business with one caveat – that the loan has been paid off 9 months after the company’s year-end.

If you have borrowed more from your company than you have lent to the company, your directors’ loan account is in debit – this is commonly called an overdrawn directors’ loan account.

Let’s say you borrow £50,000 from your company in August 2016 and your company end year is 28 February 2017. If you pay all of that back by 31st December 2017, there is no tax to pay.

However, had you not been able to and you still owed the company £50,000, the company (not you) would have to pay the taxman 32.5% of the amount – £16,625.

The name of this tax is the S.455 tax. S.455 is part of corporation tax and your corporation tax payment with the S.455 supplement will be due for payment by 31st December 2017.

Directors loan tax – S.455 refunds

If you pay the loan back in full to your company, your company will be due a refund of the full amount paid in S.455 corporation tax. You will have to wait though.

You can only claim back the S.455 proportion of your corporation tax nine months and one day after the end of your accounting period in which the loan was repaid.

Using our example of the director earlier in this article who borrowed £50,000 in August 2016. The company paid the S.455 of £16,625 on 28th December 2017. Our director manages to finally pay the loan back in August 2017.

The next year end is February 28th 2018. Corporation tax payment is due on 28th December 2018 and it’s at that point that the company can reclaim the £16,625 back. So, for our director, he or she has to wait 16 months for the company to recover the S.455 caused by him or her taking out the loan.

To make a claim, you need a Form LP2. You’ll need your Government Gateway ID to do this.

Directors loan tax – S.455 – are there any ways to avoid paying it?

If the profit exists in the business, you can declare dividends and use some or all of the dividend payment to settle some or all of your outstanding directors’ loans. You would never see the money yourself – it’s a paper exercise but completely normal and acceptable to HMRC.

Please bear in mind that you will have to pay dividend tax above the dividend tax allowance and that, if the value of the dividend takes your net pay in the financial year past £100,000, your personal tax-free allowance will start to reduce by £1 or every £2 you are above £100,000.

If there any not the profits there to declare a dividend, you can consider paying yourself a bonus instead. This will mean that you have to pay tax, National Insurance Employees’ Contributions and National Insurance Employees’ Contributions on the bonus. This option may however be much more expensive than a S.455 corporation tax charge.

Linked to that, any salary you pay yourself could be offset against the directors’ loan account. Again, be careful of taxes payable by both you and the company.

If there is enough profit to declare a dividend but not enough to cover it, you may wish to reduce your overdrawn balance with a mixture of salary and dividends.

Burton Beavan tip – if you are paying some or all of your overdrawn account using salary or bonuses, you need to do so via PAYE in compliance with Real Time Information. Please contact us for more.

You can “sell” any personal assets you own to the business, including your car. The sale must take place at market value. Again, this is a paper exercise but it will reduce the size of your overdrawn loan account.

Burton Beavan tip – it may not make much difference but every little helps. Burton Beavan will claim all the expenses and deductions due to you personally throughout the tax year and use them against the overdrawn loan account.

Directors loan tax – S.455 – benefit-in-kind

A benefit-in-kind is a payment made to an employee but not in the form of cash. Think company cars, for example.

If you take out more than £10,000 in a tax year in loans from your business, this will be considered a benefit-in-kind if there is no interest charged or if the interest rate is lower than HMRC’s given rate, currently at 3%.

Please note that the £10,000 figure applies to all loans taken out over a tax year.

You will pay tax at your net income level on the difference between the interest you are paying (or not paying) and HMRC’s rate.

Any payment of this type must be declared using a form P11D Working Sheet 4.

Directors loan tax – can I write the loan off?

Yes, but timing is crucial on this.

This option should only be considered if there is little to no chance of your company entering insolvency in the next 12-18 months. An insolvency practitioner may view such treatment of your overdrawn account as against your company’s creditors’ interests.

If you write your overdrawn directors’ account off, it’s treated like a distribution of dividends and you will need to treat it as personally earned income and pay tax (at the same rate as dividends) on it on your Self Assessment. Get in touch with us on how to do that.

Directors loan tax – BIG BIG WARNING!

If your company does go into liquidation, the insolvency practitioner has every right to demand that you personally repay the money straight away.

Even if you have made an S.455 corporation tax payment on a loan or set of loans you have been unable to repay your company, the liquidator may come after you for the full amount even though 32.5% of it has already been paid in tax.

Directors loan tax – talk to Burton Beavan

Contact your accountant at Burton Beavan for more information on directors’ loans and how they’re taxed. Please call us on 01606 333 900 or email us at hello@burtonbeavan.co.uk to run through the options.