Lending directly to businesses or via Peer to Peer platforms is becoming very popular, but what happens if the borrower goes bust and can’t repay you?
HS296 Debts and Capital Gains Tax (2019)
Losses on loans to traders
If you make a loan to a trader you may be able to claim an allowable loss if the loan cannot be repaid. The loan must have been used wholly for trade purposes and have become irrecoverable. You cannot claim if the borrower was your spouse or civil partner, either when the loan was made or subsequently.
You lend £30,000 to your brother to start a bicycle shop. After trading successfully for a number of years, the business fails. £5,000 of the loan is repaid to you but £25,000 is irrecoverable. You can claim an allowable loss of £25,000. If you claim the relief you’ll be taxable on any amounts of the loan subsequently repaid.
Two years after you make the claim your brother is able to repay £10,000. You’re treated as having made a capital gain of £10,000 in the tax year in which the £10,000 is repaid.
Loans that qualify
To qualify for relief the loan must be to a borrower who:
is resident in the UK
uses the money wholly for the purposes of a trade
uses the money to set up a trade, as long as they start trading
A trade includes a profession or vocation, but does not include money lending. If the loan is made to a company, that company can pass the money to another company in the same group to be used in that other company’s trade.
Loans may include credit balances on a director’s loan account but not ordinary trade debts. Exceptionally, trade debts may qualify for relief if there’s a specific agreement to extend the period of credit beyond what’s customary for the trade concerned. But you cannot claim an allowable loss if you’ve claimed the bad debt as a trading expense.
Peer to peer lending
How peer to peer lending works
Lenders place their money with a peer to peer platform which is then lent to lots of different borrowers as many small loans. Each borrower borrows small amounts from many different lenders to make up the full loan they need. The platform will collect the repayments of interest and capital from each borrower and pass them to the lenders.
Claiming tax relief on unpaid loans
If a peer to peer loan isn’t repaid the lender can set the loss they suffer on the loan against the interest they receive on other peer to peer loans before the income is taxed.
Tax relief is available to peer to peer lenders who:
are liable to UK Income Tax on their peer to peer income
make loans through peer to peer lending platforms that are authorised by the FCA
are the legal lender at the time when its agreed that the loan has gone bad
When relief can be obtained
Tax relief applies when there is no reasonable prospect of the peer to peer loan being repaid, it doesn’t apply to late payment.
The amount of relief available is the peer to peer loan still outstanding from the borrower, less repayments already received.
Relief for bad debts on peer to peer loans can only be set against interest that the lender receives on other peer to peer loans, it cannot be used against any other form of income.