Directors’ loan accounts: Get the details right

Time and again, company owners and their advisers have run into problems with overdrawn directors’ load accounts. With cash still tight, Jennifer Adams offers advice on how to avoid getting into such situations.
 
With banks no longer lending and profits substantially reduced some company directors are finding that they are facing an overdrawn director’s loan account and a possible additional tax bill – as we have seen time and again AccountingWEB.co.uk’s Any Answers page.

HMRC is well aware of the problems and covered directors loan accounts in one of its first agent toolkits. Toolkits have no official status, but are well known as signposts to areas HMRC sees as worthy of investigation.

AccountingWEB’s own “toolkit” follows the rules set out in the Companies Act 2006 and Corporation Tax Act 2010  (CTA 2010) and answers some of the problems members have encountered. Here are the key points covered:

  • Where problems arise
  • What HMRC is looking for
  • Correct Allocation and accounting
  • When and what to disclose (s413 CA 2006)

Useful links:
 

HMRC ‘Toolkit’ Directors’ Loan Accounts
 

About the author
Jennifer Adams FCIS TEP ATT is a freelance writer and author specialising in tax and company secretarial issues; she can be contacted at Abacus Business Solutions. The information contained in this article is intended to provide for general educational use and information only. It is not intended to advise or recommend any particular course of action or opinion. The reader should not act or rely on any information contained therein without seeking independent legal advice.

Continued...

» Register now

The full article is available to registered AccountingWEB members only. To read the rest of this article you’ll need to login or register.

Registration is FREE and allows you to view all content, ask questions, comment and much more.

Comments
ourtone's picture

Does this work

ourtone | | Permalink

We have a situation in the office at the moment with a director who has a large £250K plus overdrawn loan account.  Business is profitable with reserves of £750K.  Client wants the company to do a purchase of own shares with the proceeds going to repay the loan.

Anybody used this tactic before?  What would HMRC think?

thacca's picture

I don't think that will save tax.

thacca | | Permalink

What you're saying will work to clear the loan account. However, I believe it will be taxed as a distribution and result in a similar personal tax charge. To be a taxed as a capital receipt certain conditions must be met which doesn't look like the case. If you want to drop me an email I'm aware of a tax strategy that you/your client may be interested in: thacca@hotmail.com

what is the general consensus

imbs | | Permalink

This legislation is so convoluted it is hard to know what is best (and safest for  us) to advise our clients.  Shareholder/director close companies are so common these days with one of the main reasons for such a structure is to minimise the tax burden by the director taking small salary (£105 p/w) and dividend. 

In reality, from my experience, the directors do not understand the difficulties they are causing by simply withdrawing from the company  account as they please.  They do not know that they are pushing their directors loan account up and they have no idea of the tax implications of doing this (no matter how much we try to explain it to them). 

So I just want to get a feel for what our professional advice is at the moment. Are you:

1.  "making" the director put all company earnings through as salary (or enough to meet the needs of the director based on how much he is withdrawing as he pleases)

2.  putting through small salary, and then raising dividend to cover o/drawn account?  Perhaps on a monthly/quarterly basis

3.  anything else?

I feel that we are leaving ourselves exposed by doing 2 but i reality, i think you would loose clients by doing 1!

thanks

carnmores's picture

Too bloody right re 1

carnmores | | Permalink

i suggest that there is a minute drawn up that states that all monies taken out of the company are loans unless expressly designated otherwise - then you can pay dividends later to clear as necessary if possible

Interim Dividends

J Lessels | | Permalink

This is a more dangerous area than many accountants realise. There are some specific rules on what constitutes an interim dividend. It has to be paid out. It is contentious if using the dividend to repay a debt to the company constitutes "paying out". HMRC will probably catch on to this at some point. and there will be carnage when they do. Declare the interim dividend and then pay it out. Clients who cannot control their company finaces should probably not be advised to form companies. They are not for everyone!

CT deduction for write off

shoshana | | Permalink

s.321A CTA 2009 denies a deduction for a DLA write off under the loan relationship rules. In practice, firms have been claiming deduction for the write off as earnings wholly and exlusively incurred.

The thought process is that HMRC demand NIC on the write off on the basis the payment is earnings (it cannot be taxed as earnings because ITOIA rules that it should instead be taxed as a dividend, but there is no equivalent in the NIC law), so as long as the 'earnings' are reasonable for the services provided by the director it should be deductible.

Whether a write off could be seen a being wholly and exclusively incurred if the company has distributable profits and could have declared a dividend such that the director would be able to pay off the balance is arguable.

Malcolm Greenbaum

Director, Greenbaum Training and Consultancy Limited

IFRS, US GAAP, UK GAAP, UK Tax and VAT

Nichola Ross Martin's picture

Write off of a loan account

Nichola Ross Martin | | Permalink

The only time I have seen a write off allowed under what has now become s.34 ITTOIA 2005 for a close company was when a director stole from the company and then disappeared. The company was able to demonstrate to HMRC that it had done all in its powers to recover the debt yet failed and HMRC allowed the deduction. Fair enough. 

If you find HMRC's toolkits a bit long winded, try our summary

Virtual tax support for accountants: www.rossmartin.co.uk

The Reality of Overdrawn Loan Accounts

DAIHARDATWORK | | Permalink

I've reviewed every toolkit, toolkit link, HMRC manual [including CTM61615] + even their relatively new offering at http://www.hmrc.gov.uk/ct/managing/director-loan.htm but I can find nothing which confirms how to deal with the following which in the real world I suspect is more the "norm" than the exception:

Assume a year 1 loan of £100,000 at 31.3.10 which could not be quantified for 8 months or so after that year end simply because the director was far too busy to advise his accountant in real time which of the company's outgoings were private + chargeable to his loan a/c. [Disregard amounts chargeable as remuneration as he has no written contract of employment which might bring that concept into play]. After much exchanging of suspense account data all outgoings were duly posted to either company expense headings or to his loan account strictly by reference to their dates of payment/invoice. So we are now in December 2010 and he has continued his unfortunate treatment of company funds as his own during the period from 1.4.10 to date. Without doubt he will have put further private expenditure of perhaps £70,000 through the company's bank/credit card but it is impossible to establish that figure without repeating the pain just gone through to establish the position and to complete the company's detailed accounting records through to 31.3.10. His company is very profitable, he is the sole shareholder and is perfectly happy to declare whatever dividend might be required to repay his loan account. My common sense suggests that such a dividend ought to be the £100k plus whatever else has been withdrawn subsequent to 31.3.10. Other than CTM61615 - bed & breakfasting o/d a/cs which is not in point - everything leaves me with the impression that declaring a dividend of £100k which becomes due & payable this month is what is required to justify 100% relief under S419(4).

Nowhere can I find any material which suggests that year 2 withdrawals need to be recognized in establishing whether the year 1 loan has been repaid within the prescribed 9 month period for S419 purposes.

It is of course understood that the dividend credit is ineffective for 2009/10 beneficial loan benefit purposes as it may not be credited to the loan account until this month but why is that logic apparently not applied for S419?

raycad's picture

Check out the Rule in Clayton's case

raycad | | Permalink

Daihardatwork

You should check out the Rule in Clayton's case - see CT61605.  This ancient banking case established the precedent that, in the case of a loan, in the absence of any requirement to the contrary, a repayment (or partial repayment) should be attributed to the earliest debt. 

Following this principle, one is allowed to attribute "credited" items in a DLA, such as dividends, undrawn net salary or external cash introduced, to the previous year's loan.  If these credits arise in the 9 month period after the end of the AP then no sec419 liability arises.  It follows from this that the new debit items since the end of the last AP are not netted off, and will simply form part of the CY loan balance at the year end.

Even if outside the 9 month period it can sometimes still be useful (in that it saves interest) to attribute the credit items to the earliest s419 charge, although in this case you will have to wait until 9 months after the end of the AP in which the credit item(s) fall.

Re Clayton's Case

DAIHARDATWORK | | Permalink

raycad

Thanks for yours - my query was also posted under Any Answers which you will see takes the matter to the same conclusion but via EIM26260 & 26261.

Your posting does of course support the FIFO approach rather than LIFO as incorrectly proposed by another contributor.

I must have been having a bad day as http://www.hmrc.gov.uk/ct/managing/director-loan.htm had already taken me to CTM61605 but its specific answer to my question obviously did not register at the time.

blok's picture

.

blok | | Permalink

Misnomer?
What if the director is not a participator in the company? Does the above article still ring true?

Write off and possible tax liability

rboggon.yahoo.co.uk | | Permalink
  • If the director is a participator in a close company, the loan is treated as a distribution grossed at the dividend tax rate (s415 ITTOIA 2005). Declare it on the Box 13 Additional Information pages on the directors personal tax return; the director is liable to higher rate tax if appropriate.  
  • How does the tax return calculate if any tax is due if this is a "white space"?

Nature and purpose?

norstar | | Permalink

How does the nature and purpose of the loan affect things?

With RTI coming in, I am minded to get clients to sign a resolution approving a £40k loan to be drawn upon as and when the director requires, but as to the "nature and purpose", does "the loan is provided to the director with the purpose of helping him meet his day to day expenditure pending dividends" work?

Or does it even really need to be there?

Irrecoverable Loan Account

pmelloy21 | | Permalink

I have read through the above and don't find anyone mention a similar situation that I have with a client.

The client was previously using the loan account as normal. Basic salary and any further withdrawals being treated as Directors Loan Transactions, with the year end dividends sufficient to clear them.

Back in 2005, however, the company had a bad year and had no distributable reserves to declare a dividend. As such, the previous advisor did not declare a dividend, however, the client claims that the consequences of this action were not explained, at all, to them. This was the case for a couple of bad trading years. We have taken over the accounts this year for the first year, and the overdrawn balance has increased to circa £100k.

As far as we can see, no S455 tax has been declared or paid on this balance, resulting in a liability for the client this year of the full amount, subject to confirmation from previous advisors/HMRC that we are correct in our assertion. However, the client is not in a position to repay £100k of an overdrawn loan, let alone the resultant S455 tax liabilty on top of the Corporation Tax charge.

If this is considered genuinely irrecoverable by the company, is there any grounds for writing this off as a bad debt and NOT taxing as a distribution by the company in the hands of the director ? I can not find anything that would allow for such a circumstance, but wondered if anyone had dealt with anything similar.