When we go through a set of accounts with our clients, one of the areas that causes the most confusion is the Director’s Loan Account.
The common questions we get asked are:
- What is it?
- Can I have one?
- If I do have one, what’s the tax impact to the company?
What is a Director’s Loan Account?
At its simplest, it’s a record of all of the transactions between you, as a Director, and the company itself. The Limited Company is a separate legal entity to you, and its bank account is separate to yours.
When you set up the business, you probably had to put a bit of money in to get it going. That is treated as a loan. A loan from you, the Director of the business, to the company.
As the company goes forward, there are transactions on this loan where, for example, you might buy some things on behalf of the company. For example, if you’re out and about and you use cash to pay for a parking ticket or a taxi. Perhaps you use your own credit card for some purchases. In these instances, you’ve used your money to pay for things for the company. Therefore the company owes money to you, the Director. Therefore, it’s credited to your Director’s Loan Account.
The flip side is, there are times when the company pays for things for you. Perhaps you used the company bank card to pay for a personal meal. The main example is when the company transfers money from its bank account to yours, and that money isn’t already declared as a salary or a dividend. It’s just a cash transfer.
In a small business, this is pretty common. You are the owner and manager of the business and transferring money to and from your own bank account is relatively common. The key thing is that it is all part of the Director’s Loan and it must be accounted for as such.
What we find is that, when clients first come to us, they may see a figure on a Director’s Loan Account at the year-end and not know what it is. However, when they see the individual transactions one by one throughout the year, it usually does make sense. It’s just understanding the concept of the loan.
Are you allowed a Director’s Loan Account?
Yes – you are.
However, you have to be aware of the rules over that loan account. In particular, you need to understand the rules when the Director owes money to the company.
It is fine for the company to owe you money but, generally, you shouldn’t just be taking cash out of the business without it being accounted for properly as a salary or a dividend, or as a Director’s Loan.
What’s the tax impact of a Director’s Loan Account?
If your Director’s Loan Account is overdrawn, ie you owe money to the company, there may be a tax impact.
HMRC doesn’t want you to just take money out of the company, call it a loan, and neither you nor the company to pay tax on it. If you are taking money out of the company, ultimately it should be a dividend or salary, which has a tax impact.
Therefore, HMRC has a few rules on overdrawn Director’s Loans.
The first rule is that, if you owe money to the company at the accounting year end, the company should pay corporation tax at a rate of 32.5% on the balance of that loan.
The exception is that, if the loan is repaid within nine months of the year end, you do not have to pay the tax.
As an example, if your year end is 31 December 2018 and you owe your company £10,000, there is a tax charge of £3,250 unless you repay the money by 30 September 2019. Not entirely coincidentally, 30 September 2019 is also the deadline date for filing your accounts and tax for the year.
The reason for this is to stop you running off and not paying any tax.
The good news is that, when you do repay the loan, HMRC will refund the tax to the company. However, there may well be a time lag, ie you may pay the tax in one year’s tax return and then get it back a year later.
But the point is that it’s a way of HMRC stopping you running off without paying any tax. They are happy to pay it back when you put the loan back to zero.
If the loan is more than £10,000, there is actually a tax “benefit-in-kind” on you personally. This is because you’ve had a loan without paying any interest.
HMRC assume that you have avoided paying interest……and want tax on that benefit. They have their own rate This rate is currently 2.5%. On a £10,000 pound loan, they would assume that you’ve got out of paying interest of 2.5%, ie £250, and charge tax on that.
It is worth being aware that, if the company closes, any overdrawn loan needs to be repaid by the Director. The Director remains liable for this personally.
So, that’s how Director’s Loan Accounts work. If you have any queries, please do get in touch.
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