When your company is limited the money belongs to the business and you cannot just help yourself to funds. If you need money in addition to your salary or dividends you may need to take a director’s loan.
As we’ve considered previously, even if you are the only person in the business it is a separate entity to you. As a result, following legal procedures is necessary if you’re taking money out of the company.
What is a director’s loan?
A director’s loan is a way in which the director of a business can take money out of the company. As it states, it must be a loan and must be paid back.
HMRC defines director’s loans as:
“Money that is taken from the company that isn’t either a salary, dividend or expense repayment, or money that you’ve previously paid into or loaned to the company.”
If you decide to take a director’s loan then it must be recorded in your personal director’s loan account.
Who can take a loan?
As the name suggests, directors can only take such a loan. Directors are responsible for running and managing day to day activities of the company, including financial, operational or administrative.
We’ve already looked at the legal requirements and responsibilities of directors. Legally, UK limited companies must have one director over the age of 16 who isn’t disqualified from being a director. Not arranging a director’s loan properly could mean you’re in breach of the law.
Shareholders who are not also directors cannot take out a director’s loan.
Why take a director’s loan?
There are many reasons why you may need extra cash. You maybe facing unexpected repairs at home and have tied up most of your money in the business , meaning you require a helping hand. Whatever the reason, any money that isn’t your salary, dividend or repayment for expenses should be classed as a director’s loan. It must be recorded in the Director’s Loan Account (DLA).
Whether you owe the company money or it owes you, it must be recorded as an asset or liability on the balance sheet of your company annual accounts.
What is a DLA?
A DLA, or Director’s Loan Account, is a record of transactions – apart from salaries and dividends – between the company and any of its directors.
There are two transactions that are typically recorded on a DLA. These are:
Cash withdrawn from the company.
Personal expenses paid for using company money or credit card.
- If you need to know more about tax-deductible business expenses, check out our earlier blog.
- Avoid using your company’s money for personal expenses, or it can become unnecessarily complicated to record!
How to take a director’s loan
Just taking cash from the company is not allowed! Remember, this is a company account and you need the approval of the company shareholders first – particularly if the loan is more than £10,000. Even if you’re the only shareholder, the approval must be kept in writing.
When to repay a director’s loan
Loans must be repaid within nine months of your company’s year-end. If you fail to do so, you will pay additional tax.
Are they taxable?
This isn’t straight forward! It all depends on when it is repaid. As mentioned above, if you repay the entire loan within nine months and one day of your company’s year-end, no tax is owed
If your DLA is overdrawn on this date, additional Corporation Tax of 32.5% is owed. While referred to as Corporation Tax, it’s known as Section 455 CTA Tax!
Once you clear the full amount of the loan, however, HMRC repays you the tax charged!
How to repay a loan
Using a dividend payment or salary to move the money back into the account is the easiest way to repay director’s loans.
What if I can’t repay?
No-one should a loan they can’t repay. Doing so could create problems, which we will discuss. But there maybe an incidence when circumstances suddenly change, such as a pandemic!
Ideally, if the company has enough cash in the bank, you can clear the loan as taking it as a dividend equal to the sum of the loan. This deems it as a dividend under the Income Tax Act 2005.
If failing to repay the loan places the company in financial difficulties, and it has to be liquidated, the liquidator could chase you for repayment. And if your business is eventually declared bankrupt you could end up in court.
Being declared bankrupt can lead to you being prevented from being a director of another limited company. Also, you may not be allowed to start or manage another company, and you have to inform future lenders of your bankruptcy for loans over £500. Think carefully, therefore, if you’re planning on a director’s loan if you think the company’s financial position could be compromised.
HMRC and director’s loans
HMRC pays close attention to accounts that are regularly overdrawn. If they decide your loan is a salary, they will charge Income Tax and National Insurance on the amount!
Beware that they will regard a director’s loan as a Benefit in Kind if:
- The loan exceeds £10,000 at any time.
- You are not paying interest.
- Or the interest is below HMRC’s average beneficial loan rate.
- Should your loan meet any of the above criteria, you will need to include it on your P11D.
Regardless of the amount, you are required to include the loan’s cash value equivalent on your personal self-assessment tax return. To do that, you need to refer to HMRC’s official rates list.
Should I take out a loan?
It’s very much a personal choice, but beware, you should pay off a director’s loan as soon as possible to avoid tax charges. It’s best to seek advice from an experienced accountant due to the amount of issues to consider before doing so.
If you’d like to speak to us about director’s loans, contact one of our team today. We deal with clients from around the UK, so it’s OK if you are not in Newcastle or the North East!
