It’s not uncommon for a director to borrow money from their limited company. You can do this in the form of a director’s loan, but you must keep an accurate and up-to-date record of any such transactions in a director’s loan account.
This post explains everything you need to know about directors’ loans, including why you would use them, how to record money that you borrow from or lend to your company, and the potential tax implications of doing so.
What is a director’s loan?
A director’s loan is any money that a director personally receives from their company that is not one of the following:
- salary payment
- dividends from shares
- reimbursement of business-related expenses
- reimbursement of money that they have previously paid into the business
- pension contributions
Essentially, it is money that a director borrows from the business and will have to pay back at some point. There are several reasons why this type of loan may occur, such as:
- withdrawing or transferring cash from the business bank account for your own use
- using company money to pay for personal expenses
- using your company bank card for non-business purchases
- mistakenly paying yourself an illegal dividend
- making charitable donations in your own name using company funds
Lending capital to your own company is also classed as a director’s loan. This scenario may arise if you need to use your own money to buy equipment or stock when setting up the business, cover a temporary cash-flow issue, or fund expansion plans.
If you’re new to running a limited company, you may assume that all of the money and assets in the business belong to you. After all, you’re the one who works hard to generate profits. However, this is not the case.
When you set up a limited company, it becomes a distinct entity (a legal person) in its own right. It has a legal personality that is separate from its owners (shareholders) and the people who run it (directors).
This means that your limited company owns all of its assets and profits, can enter into contracts and borrow money in its own name, and assumes liability for its own debts and actions.
Consequently, you cannot treat your company’s income as if it were your own. You can only legally withdraw funds in one of the ways listed above, or as a director’s loan.
Whilst this ‘corporate veil’ may appear arbitrary and restrictive, it protects the owners of a company by providing them with limited liability for the debts of the business. It also opens the door to greater tax efficiency – if used correctly.
Keep a record of loans in a director’s loan account
You must keep an accurate record of any funds that you borrow from, or lend to, your company (including all repayments). This record is known as a ‘director’s loan account’ (DLA).
A DLA is ‘overdrawn’ when a director owes money to their company. Conversely, the account is ‘in credit’ when the company owes money to the director.
You can set up and manage a director’s loan account using your accounting software, or you can simply use a spreadsheet, if preferable. If the company has more than one director, you will need to maintain a separate DLA for each person.
Whichever method of bookkeeping you use, you must include each director’s loan account in the balance sheet as part of your limited company’s annual accounts.
If your DLA is overdrawn at the end of your company’s financial year, it will show as an asset on the balance sheet. If the account is in credit, it will show as a liability.
Tax on directors’ loans – when you borrow money from your company
You will need to repay any money that you borrow from your limited company. There may also be certain tax consequences for you or the company, depending on how much you borrow and how quickly you settle the loan.
To avoid significant tax liabilities, you should try to repay a director’s loan no later than 9 months after the end of your company’s accounting period for Corporation Tax.
The end of this accounting period is usually the same as your accounting reference date (ARD), which is your company’s year-end and the date to which you make up the annual accounts.
If you repay the loan within 9 months of the end of the accounting period
When preparing your Company Tax Return at the end of your accounting period for Corporation Tax, you must report the outstanding director’s loan balance on supplementary form CT600A.
Depending on the amount that you borrow, S455 tax at 33.75% on the overdrawn loan balance may be due under section 455 of the Corporation Tax Act 2010:
- If you owe less than £10,000 and you repay the full balance within 9 months of the end of your Corporation Tax accounting period – no tax is payable by you or the company.
- If you owe more than £10,000 at any time in the tax year – it is treated as a ‘benefit in kind’ and the company must pay Class 1A National Insurance on the loan amount. You may also have to pay personal tax through Self Assessment on the loan at the official rate of interest (currently 2%). However, no S455 tax is payable if you repay the full balance within 9 months of the Corporation Tax accounting period.
S455 tax is a Corporation Tax charge on directors’ loans and it is included in a company’s Corporation Tax bill. It is due at a rate of 33.75% for the 2023-24 tax year, which is in line with the higher rate of dividend tax. The deadline for paying this bill is 9 months after the end of the accounting period.
Therefore, whilst your Company Tax Return may show that you owe S455 tax on the outstanding loan balance at the end of the accounting period, you won’t have to physically pay the tax if you repay the loan in full within 9 months of that date (i.e. before the deadline for paying your Corporation Tax bill).
If you do not repay the loan within 9 months of the end of the accounting period
When you prepare your Company Tax Return at the end of your accounting period for Corporation Tax, you must report the outstanding director’s loan balance on supplementary form CT600A.
If you do not repay the loan within 9 months of the end of the accounting period:
- You do not have to pay any personal tax on the outstanding loan amount.
- The company must pay S455 tax at 33.75% on the outstanding loan amount. However, you can reclaim this tax when you repay the loan in full.
- The company must pay the official rate of interest on the S455 tax liability until it pays the tax bill or you repay the loan in full. You cannot reclaim the interest.
‘Bed and breakfasting’ anti-avoidance rules
In 2013, HMRC introduced anti-avoidance measures (known as ‘bed and breakfasting’ rules) to prevent directors from repaying a loan just before the 9-month tax trigger date and then immediately re-borrowing the money.
By employing this crafty strategy, directors were able to avoid paying S455 tax on loans that, in essence, remained unpaid and untaxed for an indefinite period of time.
There is now a ’30-day rule’ in place. Therefore, if a director borrows £5,000 or more up to 30 days either side of repaying an earlier loan of £5,000 or more, the company is liable to S455 tax on the original loan amount.
There is an additional provision, known as the ‘arrangements rule’, for outstanding loans of at least £15,000 where the 30-day rule is not applicable.
Under the arrangements rule, the company is liable for S455 tax on the original loan if the director arranges another loan of at least £5,000 at the time of any repayments. In such instances, HMRC views the new loan as a replacement for the repayment.
If a director’s loan is caught by either of these rules, the repayments will apply to the newer loan first, rather than reducing the balance of the original loan. This means that S455 tax and interest will apply to the full amount of the original loan until the director repays both.
The company can reclaim the S455 tax after the director permanently repays the original loan, but not the interest.
Writing off a director’s loan
It is also possible for a company to write off a director’s loan by deeming the outstanding amount as a bonus or dividend. Treating it as a dividend is more tax-efficient, but this is only possible if the director is also a shareholder.
The director must report this income on their Self Assessment tax return. The amount will be liable to Income Tax and National Insurance contributions (if it’s a bonus) or dividend tax.
The company will not be eligible for Corporation Tax relief on the written-off loan. Additionally, the value of the loan will be liable to Class 1A National Insurance.
Tax on directors’ loans – when you lend money to your company
If you are a director and lend money to your limited company, your director’s loan account will be in credit. In this situation, you can withdraw money from the company at any time up to the amount you paid in, without facing any tax implications.
Your company will not pay any Corporation Tax on the money you lend it. Moreover, you are entitled to charge interest on the loan amount, which also has the benefit of reducing your company’s Corporation Tax bill.
You can choose how much interest to charge and it will count as:
- a business expense for the company, and
- personal income for you
You will need to report this income on your Self Assessment tax return. Additionally, the company must:
- pay you the interest less the basic rate of Income Tax (20%)
- report and pay the Income Tax to HMRC every quarter using form CT61
It is fairly common for a company to borrow money from its directors, particularly during the start-up stage or when dealing with a temporary cash flow issue.
Does a director’s loan require shareholder approval?
Some directors’ loans require the approval of shareholders (members) in the form of an ordinary resolution. However, as per the Companies Act 2006, there is no requirement for members to pass a resolution in the following situations:
- the aggregate value of all loans to a director is less than £10,000
- the aggregate value of all credit transactions to a director is less than £15,000
- the loan is less than £50,000 and is intended for expenditure on company business
- the loan is made for the purpose of defending civil or criminal proceedings in relation to the director’s role in the company
When shareholder approval is not required, the director(s) can approve the loan at a board meeting instead, documenting the proceedings and the decision in the minutes.
If you are the sole shareholder and director of your own limited company, approving a loan at a board meeting and passing a resolution are both relatively straightforward administrative formalities.
Nevertheless, you must still keep accurate records of any decisions and abide by the rules pertaining to directors’ loans – including maintaining a director’s loan account.
Should I borrow money from my limited company?
Having the option to borrow money from your limited company in the form of a director’s loan is one of the many benefits of setting up a company. This type of loan is convenient and offers greater flexibility and tax efficiency than borrowing from commercial lenders.
Under the right circumstances, you can borrow up to £10,000 from your company without the need to pay any tax on the loan. It’s also an effective way to lend money to your company in the short term, as an alternative to taking out a bank loan and paying steep interest rates.
However, directors’ loans are complex and require careful consideration on account of the potential tax liabilities and significant administration. What may initially appear to be an easy solution can turn into an expensive and time-consuming burden if you do not comply with the rules and requirements set out by HMRC.
To avoid facing any issues and ensure that you make the right decision for you and your company, we strongly recommend seeking professional advice from an accountant before taking a director’s loan.
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If you have any questions about this post or require guidance on setting up a limited company, please get in touch with our expert team or leave a comment below.