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Directors Loan Account and Liquidation

Directors loan account and iquisation. Written by: John A Waller Director Updated: June 24th,2022.

A Directors Loan Account (DLA) shows if the Company owes you money (in credit) or money to the Company (known as “Overdrawn”).

What is A Director’s Loan Account?

Many limited companies incorporated in England and Wales are former sole traders or one-person businesses who incorporated their business for financial protection.

As a director and employee of the company, salary payment requires payment through the PAYE scheme with HMRC.

However, many choose to draw money from the company on the belief that it saves them and the company tax.

Overdrawn director’s loan accounts exist on the principle of paying themselves without voting a dividend to themselves and adhering to the process.

Many companies have many transactions in their DlA. For example, a Director pays an invoice themselves. Therefore, it shows as a credit in the DLA. Thus, the same applies when they put money into the business to keep it afloat for cash flow purposes.

So a DLA remains, therefore, a Creditor, i.e. money owed to the Company’s Director, but a whole new scenario evolves when overdrawn.

Directors should understand company personally liable debts they may face should a company enter into a creditors voluntary liquidation or face a winding-up order and compulsory liquidation.

What Happens To The Director’s Loan Account In Liquidation? 

The liquidator will require directors to repay their debt to the company for the benefit of the creditors. If directors fail to repay, legal action may ensue to collect payment.

Who can have a DLA?

To have a DLA, you must be a company director to establish a loan.

Why have a DLA?

To create a director’s loan, maybe you have a financial need and therefore require a loan processed quickly.

However, the loan does not have personal or tax, and HMRC requires it done before the end of the year.

Directors Loan Account and Liquidation – An Overdrawn DLA and Liquidation?

HMRC can then consider an overdrawn DLA at the end of the year as a tax-free benefit for the Director. Suppose repaid to the company within nine months of the year-end, then not a problem.

Generally, if the loan account exceeds £10,000, then classed as a benefit in kind and declared on the P11D.

So if the company liquidates, the Overdrawn DLA becomes an asset. The insolvency practitioner can then recover that.

Can it be offset?

Situations can arise, especially with two directors and one director having a debt due to the company. However, the other remains owed money. Therefore, the directors must formally ensure it remains in writing correctly to offset these balances, so that offsetting can happen.

Can you write off the Directors’ Loan Account?

A company may write off a loan to a director. However, the loan requires a formal waiver. The liability remains if the company accepts it and ceases further collection. Then deemed dividend and covered by the Income Tax (Trading and other income) Act 2005.

Directors Loan Account and Liquidation. Do Director’s Loans require repaying?

Yes. 

Directors must repay the Director’s loan within nine months of the year-end to avoid tax.

Should the repayment of the loan not take place:

  • The company faces charges of corporation tax penalty of 32.5% of the loan amount;
  • If the loan exceeds £10,000, National Insurance and Income Tax repercussions apply.

Directors Loan Account and Liquidation and How To Avoid An Overdrawn DLA?

Therefore, prevent the appointed insolvency practitioner from asking the Director for overdrawn monies to be repaid? Things need to happen, so to avoid this happening, like:

  • If the salary / PAYE remains unpaid due to cash flow? Then process the payroll and credit the DLA.
  • Dividends can only be awarded out of profits and then credited to the DLA for withdrawal.
  • Check for expenses the Director may have paid personally, but then never claimed

Records You then Must Keep?

Make sure you record all the money you borrow from or pay into your company. This account needs to be called the Director’s loan account.

At the financial year-end:-

Incorporate money you owe your company, and any the company owes you. Therefore, ensure this remains recorded on your companies’ balance sheet’ in your annual accounts.

Disclosure of an overdrawn DLA

However, an overdrawn director’s loan account requires the company to disclose it in its tax return. The company then remains required to pay corporation tax on the balance, remaining nine months after its year-end. Directors of the Company owing money should note that HMRC may raise the Director’s loan account issues as part of a corporation tax compliance check. Therefore, ensure that you include all entries accurately. 

Tax On Loans From The Company?

Is a director’s loan taxable?

The provision requires accounting to pay tax on the Director’s loans. Your company may also be required to pay taxes. Applies if you’re a shareholder and Director of your Company.

Your tax obligations, both private and business, may then depend on whether the Director’s loan account remains:

  • Overdrawn – you, therefore, owe the company money.
  • In credit – therefore, the company then owes you money.

Use the corporation tax, company tax return CT600 2015 version 3 when you prepare your Company Tax Return to show the amount you, therefore, owe the company at the end of your company’s financial year-end.

If your company can’t pay Corporation tax, you need to seek advice from a licensed insolvency practitioner.

Reclaim Corporation Tax

Your company may reclaim the Corporation Tax paid on a director’s loan repaid, written off or released. You cannot reclaim any interest paid on the Corporation Tax.

Ensure you claim once any relief is due. Nine months and one day after the Corporation Tax accounting period, the loan repayment is written off or released.

The claim requires securing within four years (or six years if the loan remains repaid on or before March 31st 2010).

Corporation tax charge – S455.

Come to the company year-end; if a balance remains outstanding on your loan account with your company, the company may be liable for a tax charge, referred to as S455.

I am applying to ‘close companies’, a limited company with five shareholders/directors.

The company must summarize the directors’ loan account balance on additional pages within the company’s annual corporation tax return (CT600). The S455 charge 32.5% of the balance outstanding at the period end. S455 tax is then payable nine months and one day after the year-end.

An overdrawn director’s loan account remains effectively an interest-free loan, so S455 deters the company from providing such generous perks to its directors. However, S455 remains unusual, as it exists temporarily – and repaid to the Company by HM Revenue & Customs (HMRC), as the Director repays the loan to the company.

S455 tax is due on any advances on the loan, not the total loan balance.

Repayment of the loan within nine months of the year-end allows relief immediately, and the S455 tax does not apply. (disclosure in the company’s annual tax return required).

Beneficial Loan Benefit in Kind

A further potential liability of having an overdrawn director’s loan is having it treated as a benefit in kind, a beneficial loan. Overdrawn Director’s loan account remains an interest-free loan from your company. Therefore, the loan recipient (Director) remains liable for tax on the interest not charged.

Usually, few exceptions exist for a taxable benefit applied to a beneficial loan. They thought maybe the:

  • The loan for ‘qualifying’ used by the company director;
  • The company charged the Director’s interest;
  • a loan considered small.

If You Lend The Company Money?

Any money you may put into your company as a loan remains not liable for the Corporation tax.

What if I change my company’s interest?

Any interest you, therefore, choose to charge your company for money lent counts as:

  • A tax allowable business expense;
  • Personal income for you.

Any interest you receive requires accounting as income and must be noted on your self-assessment tax return the next time you file it.

Your company needs to:

  • Pay you the interest deducting income tax at an introductory rate of 20%.
  • Account for tax on interest via a CT61, and pay the income tax every quarter to the HMRC.

You can request form CT61 online or call HM Revenue and Customs.

HMRC Shipley Accounts Office.

0300 051 8371;

Monday to Thursday, from 9 am to 4.30 pm;

Friday, from 9 am to 4 pm.

Dividends.

Essential to note. Dividends may only payout to shareholders of the company. If a director, but not a shareholder, then not entitled to dividends.

As a director, you are responsible for your action, especially the company’s management. Should your business fail, leaving an overdrawn balance requiring repayment to the company? Saying my accountant advised me to do it is no defence.

To Pay Dividends Out.

  • Ensure monthly management accounts show “PROFIT” available for distribution. If the reports report a loss or a small profit during that period, directors may not pay a dividend unless reserve profit exists in that financial year.
  • Take minutes at the monthly board meeting, approved by directors, and pay a dividend from profit.
  • Have a reserve provision in profit and loss for bad debts. Protects, therefore, taking dividends without profit.

Dividend Paperwork Required.

For a dividend payment, every time you make a payment, you need to write up a dividend voucher detailing the following:

  • Date of payment;
  • Company name;
  • Details of shareholders paid a dividend;
  • The amount of the dividend paid;
  • Every shareholder receiving a dividend payment requires a copy of the dividend voucher. The original must be recorded and maintained with the statutory books and records. Always please seek professional help and ask for it to be in writing.

DLA Written off?

Your company writes off a director’s loan, tax and accounting entanglements. You should seek help from a suitable accountant for further advice.

Directors loan to the company.

Unlike an overdrawn account, which is an asset of the company in liquidation, a director’s loans are usually unsecured. Therefore rank as an unsecured creditor.

So what can happen in summary?

  • The loan requires repayment regardless of your financial situation—failing, which increases the risk of personal bankruptcy and other sanctions.
  • The appointed liquidator will prosecute you in court for the money you owe to your former company.
  • Penalties against you, together with demands for repaying owed by you to the company, could lead to disqualification as a director for two to fifteen years, should any impropriety be proven.
  • If an illegal deed is proven, you may be prosecuted and sentenced to prison.
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