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Contents

  1. 1. What is a director’s loan?
  2. 2. Director’s loan account
  3. 3. How much can you borrow?
  4. 4. Tax on director’s loans
  5. 5. How soon does a director’s loan have to be repaid?
  6. 6. Accidental director’s loans

What is a director's loan?

February 7, 2023
When you set up your own business, there are many initial costs involved in getting your venture off the ground. These can include business insurance premiums, accountancy fees and website costs, to name but a few.If you’re the director of a limited company, one way to cover these costs is to loan the business funds – or provide a director’s loan while you’re waiting for client payments to come through.In this post, we’ll deep dive into how a director’s loan works, outline the tax implications for both individuals and companies and explain how a director’s loan account can be managed.

What is a director’s loan?

A director’s loan is when you take company money from your limited company’s bank account that can’t be classed as salaries, dividends or legitimate expenses. As with any other type of business loan, this will eventually need to be repaid.It can also describe director, shareholder or business owner lends money to the company. This can be to help with start up costs, or to tide it over any cash flow problems, in turn making the company director one of the company’s creditors.To benefit from the tax advantages that come with directors’ loans, the director of the company taking out the loan must also be shareholder. These loans are also open to close family members of a shareholder.Directors’ loans should only be used in exceptional circumstances. Not only are they admin-heavy, but there can be heavy penalties for tax on directors’ loans.

Director’s loan account

A DLA, or Director’s Loan Account, is the account in which all transactions relating to money either lent to or borrowed from the company are recorded. If a company has more than one director, there should be a separate director’s loan account for each director.At the end of your company’s financial year, you’ll need to include any money you owe, or any money the company owes you, on the balance sheet in your annual accounts.When a company borrows more money from a director than it’s lending to them, the director’s loan account is in credit. However, if the reverse is true and the director borrows more than they’re owed, the DLA becomes overdrawn.As a rule of thumb, it’s good to keep your DLA either in credit or at zero, as an overdrawn director’s loan account for any length of time can raise concerns with shareholders, investors and other creditors.

How much can you borrow?

There is no legal upper limited on how much you can borrow from your company accounts. However, you should always think carefully about how much the business can afford to lend you, as an overdrawn DLA can cause cash flow problems further down the line.
You should also note that any loan of £10,000 or more will automatically be treated as a benefit in kind and will have to be reported on your Self Assessment tax return.

It’s also worth noting is that you may have to pay tax on the loan at the HMRC official rate of interest, which at the time of writing is set at 2%. For loans over £10,000, you should always seek shareholder approval.

Is interest charged on a director’s loan to a company?

The amount of interest charged on a director’s loan depends on the company in question. However, it’s important to note that if the interest charge is below the official rate, then the discount the director has received may be classed as a benefit in kind.The official interest rate to be charged on directors’ loans is determined by HMRC and is currently set at 2%.
Alternatively, the company may decide not to charge interest on the loan, turning this into what’s known as a beneficial loan. Where this occurs, any interest gained by the company below the HMRC directors’ loan interest rate is classified as income, and the discounted interest treated as a benefit in kind for the director. As a result, the director must declare this income on a P11D form on their next Self Assessment tax return.

Tax on director’s loans

The type of tax and the amount you owe depends on whether or not you owe the company money, or if the company owes you money.

If you owe your company money

If you pay your company back in full within 9 months and 1 day of the end of the company’s financial year, you won’t need to pay tax. However, if the company’s year-end rolls around and you still have an overdrawn DLA, you’ll need to pay tax on the outstanding amount.
If this is the case, you’ll need to pay additional Corporation Tax on any outstanding payments on an overdrawn director’s loan account, which can be repaid to the company from HMRC if the company director repays the amount they owe. You can also reclaim the interest paid on the Corporation Tax, and must make your claim within 4 years.

If you decide to write off the loan, or if the loan is ‘released’ as a result of the company going into liquidation, you'll need to deduct Class 1 National Insurance contributions on the loan amount through the company payroll. You’ll also need to pay Income Tax on the loan through your Self Assessment tax return, and include this amount as a benefit in kind on a P11D form.

If the company owes you money

If you’ve charged interest on the loan, any interest your company pays you counts as income and therefore must be recorded on your Self Assessment tax return.

How soon does a director’s loan have to be repaid?

You must repay a director’s loan within 9 months and 1 day of the company’s year-end, or you will be liable for a heavy tax penalty.Any unpaid balance at that time will be subject to Corporation Tax (also known as S455 tax) charged at 32.5% up to April 2022, before increasing to 33.75%.

Can you claim back Corporation Tax on an overdue director’s loan?

In short, yes. If you have taken longer than 9 months and 1 day to pay back your director’s loan and have been charged Corporation Tax on the unpaid amount, you can claim this tax back 9 months after the end of the accounting period in which you cleared the debt.As this process can be long-winded and difficult, it’s best to avoid this situation if possible. One way to get around this is to delay paying your company’s Corporation Tax until your director’s loan has been repaid.

Can you repay one director’s loan and then take out another one?

You must wait a minimum of 30 days after paying back one director’s loan before you take out another.To avoid the Corporation Tax penalties of late repayment, some directors choose to pay off one loan just before the nine-month deadline before taking out another.HMRC refers to this practice as ‘bed and breakfasting’ and considers it to be tax avoidance, even if you stick to the 30-day rule. To keep you out of trouble with HMRC, you shouldn’t rely on director’s loans as a source of extra cash.

Accidental director’s loans

Did you know, you can inadvertently take out a director’s loan by paying yourself an illegal dividend?You should therefore be very careful when preparing your management accounts, as you could end up declaring a profit by mistake and inadvertently paying yourself a dividend. This would then be considered as a director’s loan and recorded in the director’s loan account to be repaid within the 9 month window.
Since accounting for a director's loan can be tricky, you might find it beneficial to leave this tax area to an expert. To get your hands on unlimited accounting support, why not give Ember a go? You can book a demo to see Ember in action, or try for yourself by getting started with a 14-day free trial.

Caroline Wire
Caroline WireFreelance Copywriter

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