Tax-Free Loans for Directors and Employees: Fact or Fiction?

Do you know the rules around director’s loans? If you withdraw money from your company other than for salaries or declared dividends, you should come and talk to us.

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Taking out a loan as a director from your company might seem like a good idea, but it can have unintended tax consequences if not managed properly. There are three main impacts to consider:

1. Taxable benefit: If the loan is interest-free and exceeds £10,000, it may be considered a taxable benefit, affecting your tax code.

2. Section 455 charge: If the loan is not repaid within 9 months and 1 day after the year-end, the company may face a Section 455 charge.

3. Tax liability: If the loan is written off, there may be an income tax (and potentially National Insurance) liability.

Furthermore, if the company goes into liquidation with a director's loan outstanding, the liquidators can take legal action to recover the loan, potentially leading to bankruptcy for the director.

To ensure you're on safe and tax-effective ground when taking a director's loan, here's what you need to know:

• A director's loan account (DLA) includes any payment made to you as a director, excluding business expenses, salary, dividends, and amounts owed to the director by the company.

• If you owe the company more than £10,000 at any point during the year, a taxable benefit arises. However, paying interest on the loan at the HMRC minimum rate (currently 2.50% p.a.) can help avoid this benefit-in-kind charge.

• Ideally, the DLA should not be overdrawn on the last day of the company's accounting period. If it remains overdrawn and is not cleared within 9 months and 1 day, a Section 455 charge of 33.75% of the uncleared amount is payable.

• Repaying the loan just before the period-end and taking out a fresh advance immediately after is restricted by specific rules, known as the £5,000 rule and the £15,000 rule.

• If the loan is written off instead of being repaid, it will be taxed as dividend income in the recipient's hands, subject to employee and employer National Insurance.

• Considerations such as available profits for dividends, shareholder approval for loans exceeding £10,000, and certain exceptions to National Insurance should also be taken into account.

Managing director's loans in a tax-effective way can be challenging. Seeking advice from your adviser can help you navigate the timing of dividend payments to reduce Section 455 charges and ensure comprehensive record-keeping to withstand HMRC scrutiny.

If you plan to withdraw money from your company outside of salaries or declared dividends, it's advisable to consult with your adviser.

Get in touch today to see how we can help you!