Directors loans are common particularly in a small limited company. Loans over £10,000 require an ordinary resolution and there are additional rules for loans over £50,000.
In general, the directors take a small salary, generally at £11,000 the tax free level for 2016/17 or £8,060 the NI and Tax free level, they then take dividends.
During the year the directors take out payments as they need them and periodically a dividend is repaid to offset the directors loan.
However, if the Directors Loan Account is not repaid within 9 months of year end then 32.5% tax will be charged as part of the corporation tax.
Section 455 CTA 2010 liabilities must be included in a company’s CT600 tax return. The S455 tax forms part of the calculation of tax payable by the company under Paragraph 8 Schedule 18 FA 1998.
When the loan is repaid the company can reclaim the tax.
A claim to relief under Section 458 is a claim for relief against the original tax charge for the AP in which the loan was made. The time limit for the claim is four years from the end of the financial year in which the loan is repaid, released or written off. COM53120
32.5% is a lot of tax to pay!! even if you can reclaim it later on
On top of that any interest free loan over £10,000 will be a benefit in kind! so you will get taxed on the notional interest set by HMRC.
What can you do to avoid this tax?
Provided you have distributable reserves, paying a dividend might solve the problem.
Companies Act 2006 Section 830 – Distributions to be made only out of profits available for the purpose
(1)A company may only make a distribution out of profits available for the purpose.
(2)A company’s profits available for distribution are its accumulated, realised profits, so far as not previously utilised by distribution or capitalisation, less its accumulated, realised losses, so far as not previously written off in a reduction or reorganisation of capital duly made.
(3)Subsection (2) has effect subject to sections 832 and 835 (investment companies etc: distributions out of accumulated revenue profits).
A distribution must be justified by
- The Company’s last published accounts
- Interim Accounts
- Initial Accounts
The problem with using this approach is that the directors loans may not match the share ownership so you might have to pay more dividends than you intended to or use you end up trying to justify the use of dividend waivers.
If you are thinking of waiving dividends, bare the following in mind:
- A formal Deed of Waiver is required, the Deed will say that the Dividend is Irrevocably Waived, it must be dated before the right to dividend arises, it must be signed and witnessed and filed with the company statutory records
- You should have a good commercial reason for the Waiver which could be to retain funds for a specific purpose and this could be stated in the Deed
- Don’t make a habit of waiving dividends as it will increase the risk of questions from HMRC
- Don’t give inducements to encourage Dividend Waivers
- Make sure your dividends are legal
The other point to note is that you will be taxed on the Dividends https://stevejbicknell.com/tax-calculators/
You could choose to pay yourself a bonus but salaries will generally be the most expensive option because:
- PAYE is 20%, 40% or even 45%
- Employee NI is 12% then 2% (over £827 per week)
- Employers NI is 13.8%
Write Off the Loan
Writing off the loan is expensive.
It is treated as a distribution for Income Tax Purposes and subject to NI and Class 1 NIC will be charged to company.
The write off will be disallowed for Corporation Tax purposes.
On the positive side the s455 tax will be released.
Get a external loan
If the directors loan is likely to be repaid and is relatively short term, it might be better to get a loan and repay the debt.
A small amount of interest could be cheaper than paying 32.5% and then waiting to claim it back.
But make sure you don’t get caught by the ‘Bed and Breakfast’ rules
HMRC were concerned that some participators were avoiding this tax by raising funds short term to repay an outstanding loan. They would then draw a new loan very shortly afterwards – HMRC refer to this as “bed and breakfasting”. New anti-avoidance rules were therefore introduced in 2013.
These new rules incorporate two provisions – the “30-day rule” and the “intentions and arrangements” rule.
This applies where within a 30-day period:
- a shareholder makes repayments of their s455 loan; and
- in a subsequent accounting period, new loans or advances are made to the same shareholder or their associate.
So basically prevents the use of ‘Bed & Breakfasting’
‘intentions and arrangements’ Rule
Relief is denied regardless of the 30 day rule, if prior to repayment there is an outstanding amount of at least £15,000 and at the time the amount is repaid to the company, any person intended to redraw any of that amount or had made arrangements to make a new withdrawal; and a new withdrawal is made.
The relief denied is the lower of the amount repaid and the amount redrawn.