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Where a Company goes in to liquidation, the Director has an overdrawn loan and is made bankrupt, will the Director have an Income Tax liability when he emerges from Bankruptcy?

Where a Company goes in to liquidation, the...

I have a client where the Company has just been placed in to administration by its main creditor. The Director has an overdrawn Director's loan account (DLA) of £1m. He will not be able to repay this and will be made bankrupt as a result. He has no assets.

Despite the fact that there is no prospect that any of the DLA will be repaid, I do not expect the administrator to formally write off the DLA until the company is formally liquidated, which is likely to be long after the Director emerges from bankruptcy.

HMRC Manuals at INS44180 stipulate that

"If any part of a loan from the company to the director is not repaid by the director, it can be assessed on the director personally under Section 421 ICTA 1988 (as if the amount were a net dividend), so long as the liquidator formally writes off that unpaid balance

In order to tax the unpaid element in this way, the liquidator must make an active decision to either write off the debt, or not to pursue it. It is not sufficient that the liquidator merely takes no further action and the liquidation is closed. Therefore the safest course of action is to ask the liquidator to confirm the outstanding balance has been written off.

Many liquidators are reluctant to do this until the last possible moment, in case the director receives a windfall which enables repayment of the loan. But it can be done at the time the liquidation is formally closed (INS42285). In these circumstances ask the liquidator to take the decision at that meeting and then write to the Department confirming it was done prior to closure. If the company is struck off without any formal decision then the loan cannot be assessed.

Given that the Director is likely to be out of bankruptcy long before the company is liquidated, the DLA debt presumably still exists when he does emerge from bankruptcy, unless the administrator formally writes the debt off. If the loan account is technically written off only at the time of the liquidation (and HMRC seek formal confirmation of this), does it therefore follow that the newly released bankrupt now faces a significant income tax charge on the full original loan value (the one he has just been bankrupt for) under s421?

For tax purposes we would want any tax charge on the loan write off to crystalise before his bankruptcy and the resulting tax debt to be wrapped up in the bankruptcy. It would seem rather harsh otherwise, as he would have to declare bankruptcy again over the tax debt.

Or is there some kind of concession when it comes to bankruptcies?

Has anyone ever come across this in practice? It must be fairly common.


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05th Mar 2012 21:09

if he has been made bankrupt

the liquidator must write it off - if he is bakrupt there will be no tax to pay except as derived from his assets by his trustee

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By Hansa
05th Mar 2012 23:54

... and if he has not yet been made bankrupt

My insolvency experience was in the '90's and there have been new Acts since then.

However there were very few debts not extinguished by bankruptcy (Court Ordered Maintenance and certain fines).  Tax debts certainly were (and I suspect still are) – witness the number of minor “celebs” who spend their earnings and "forget" to pay their tax! - all bankrupted.

My advice to my client in such circumstances would be to get it over with and file a debtors voluntary petition now (not wait for a Creditors petition) .  The sooner it starts, the sooner it finishes.  As part of the petition he will need to exhibit a statement of affairs, which SHOULD include both the guarantee amount, AND the tax liability (albeit contingent) on an estimated basis not forgetting estimated statutory interest to the date of the Order.

That way he has cleared the decks and fully disclosed all known debts.  I am 99.9% certain that this will end his liabilities unless he is prosecuted.

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06th Mar 2012 09:09

Don't forget the liquidator can look at all aspects of the companies business for the last 2 years and will obviuosly pay a lot of attention to an overdrawn DLA of that size. What did the Director spend the money on?

If it was assets they will be subject to a claim by the the Bankruptcy Trustes and in some cases also the liquidator.

Also if the liquidator feels that the money has been used for the enrichment of the director to the detriment of the creditors there will almost certainly be proceeings brought to disqualify him as a Director


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06th Mar 2012 10:00


I am sorry I cannot answer your question, but my curiosity has got the better of me!

How on earth did he manage to get an overdrawn DLA of £1M????? The S419/S455 tax doesn't bear thinking about!

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06th Mar 2012 10:44

Thanks for your comments. I understand the other aspects of liquidation/ bankruptcy and the inherent risks. What I'm specifically concerned by is the risk of a tax charge under s421.


Carnmores - what you say would be logical and that's what I'd originally expected to happen. However, I can't see that the liquidator would formally write off the loan until the last possible minute (ie when dissolved), otherwise surely he's giving up the right to any return through the bankruptcy in the event that it were to yield any assets. Surely no liquidator would take the risk. So this leaves the situation that the loan account would technically be written off after the individual emerges from bankruptcy.


The point I'm struggling with is that there is no personal tax debt under s421 until such time as the loan is formally written off according to INS42285. What concerns me is that HMRC will be notified that there is an unpaid DLA as part of the liquidation. They can do nothing to charge income tax under s421 untiil the loan is formally written off by the liquidator, and this write off confirmation will almost certainly not be given until liquidation which will almost certainly when the individual emerges from bankruptcy.

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06th Mar 2012 10:55

This raises more questions

I apologise for my persistence, but is the Director guilty of fraudulent activity? If he has received £1M income, tax-free, from the company, then presumably someone somewhere is owed that £1M, plus undeclared tax. 

Please tell me this isn't what happened!

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