You might wonder if it is ideal to loan money to your company. Perhaps the better option is borrowing money from your company through a director’s loan. As a company director, you may have to face this predicament. To understand this, you must know what are the rules when paying back a directors loan. 

Before you get yourself a director’s loan, let’s discuss what it is and our director’s loan account functions. When borrowing or lending money through this method, there are risks involved.

First things first:

What is a Director’s Loan in the UK?

Money you borrow from your company’s account, which is not your salary, legitimate expenses, or dividends, is a director’s loan.

In other words, as the director of the company, you borrow money and must pay it back, eventually.

Or if you lend money to the company, then it is also a director’s loan. You can lend money to help with start-up expenses. Or maybe to resolve the cash flow issues. By doing so, you become a creditor of the company.

Reasons for Borrowing from Your Company

What are the benefits of a director’s loan? Well, you gain access to more money than you are presently receiving. Which, in most cases, is your salary or dividends.

The purpose of this loan is to cover onetime costs or short-term expenses. For example, unexpected bills coming your way.

You must remember that a director’s loan comes with risks on the side. It is admin-heavy and has the potential for hefty tax penalties.

It is better for you to use this loan less frequently. Try keeping it in reserve as a source of personal funds in case of an emergency. Therefore, you must also understand what are the rules when paying back a directors loan.

How Does a Director’s Loan Account Work?

Through a director’s loan account (DLA), you can keep an eye on money you borrowed from your company. As well as the amount you lend to it.

In case the company borrows more money than it lends, then the DLA is in credit.

If you borrow more money as a director, then you will overdraw the DLA.

This may not give the right impression to shareholders and creditors. Especially if you overdraw it for a long period.

Your mission should be to keep it at least at zero if it is not in credit.

Reach out to an accountant to help you set up a director’s loan account with ease. You must know this before you learn what are the rules when paying back a director’s loan.

Interest on a Director’s Loan

It depends upon your company whatever interest they decide to charge on a director’s loan.

Under the circumstance that your company charges below the official rate, then it is a ‘benefit in kind’. The discount you receive is treated as such by HMRC.

You may get taxed on the difference between the rate you are paying and the official one.

On the full value of the loan, Class 1 National Insurance is also due at a rate of 13.8 pc.

The official interest rate set by HMRC is 2.25 per annum as of right now. It is calculated daily.

How Much Money Can You Borrow Through a Director’s Loan?

Legally, there is no limit to the amount of money you can borrow from your company. Although, it is best to analyse carefully how much your company can lend to you without it becoming an issue. Think about how long your company can manage without the amount you are borrowing.

If not, then it can result in your company facing cash flow issues.

Additionally, please note that any loan on the threshold of £10,000 or above is a ‘benefit in kind’.

As such, make sure to report it on your self-assessment tax return. You must pay tax on the loan at the official interest rate. Any loan that is £10,000 or more needs the approval of all shareholders of your company.

What are the Rules When Paying Back a Directors Loan?

You need to repay a director’s loan within nine months and one day of your company’s year-end. Otherwise, you will end up paying a hefty tax penalty.

However much unpaid balance remains, 32.5 pc corporation tax charge applies on it. It is known as S455 tax.

The good news is, after fully repaying your loan, you can claim this tax back. The bad news is it takes a long time to do so.

How Can You Claim Back Corporation Tax on an Overdue Director’s Loan?

If, for some reason you did not pay back your director’s loan, then you must pay a corporate tax charge. There is a way to claim this tax back. For that, you must wait nine months after the end of the accounting period. It is within the timeframe of when you cleared your debt.

Surely, that is a long waiting period. Not to mention that this is a difficult process. It is better to not stay up in this situation in the first place.

If you end up here, then you can delay paying the corporation tax until you pay back your director’s loan.

The deadline for paying corporation tax is nine months after the end of the financial year. This gives you more time to pay back the loan. This is why you should know what are the rules when paying back a directors loan.

Can You Take Out Another Loan After Repayment?

Yes, you can take out another loan after you are done paying back the current one. Although, you need to wait at least 30 days before you can take out another one.

To avoid dealing with corporation tax penalties, some directors pay back their loan right before the deadline. Then, they take out another loan.

There is a term for this method, ‘bed and breakfasting,’ according to HMRC. It is a form of tax avoidance. You can wait for the 30 days to end, but it does not assure HMRC that you are not avoiding tax. Therefore, you cannot rely on director’s loans constantly for extra money.

Accidentally Taking Out a Director’s Loan

It may surprise you to know that you can take out a director’s loan by mistake. An accidental director loan may occur through illegal dividend.

Since you are a director, you can choose the form of your income. Most of it can arrive as dividends. In comparison, dividends are more tax efficient than your salary.

Although, it depends on the company making profits. No profits mean no dividends. Thereby making any dividend you receive illegal.

Not doing your work carefully can lead to you accidentally writing up a profit in your management accounts. Which in turns pays you a dividend.

Any illegal dividend you receive is a director’s loan and you should record it in your DLA. You must repay it within the deadline, which is of nine months. Now you know what are the rules when paying back a directors loan.

Can You Lend Money to Your Company?

The short answer is yes. The long version is that you can lend money to your company as a director’s loan,

You have this option available to you if you wish to invest in your company temporarily. For example, to purchase assets or fund the companies’ activities.

In case you charge interest, any payment you receive falls under your income. Whatever amount of interest the company pays must appear on your self-assessment tax return.

Meanwhile, the company considers it as a business expense. Which means it will deduct income tax at the course. The basic rate for which is 20 pc. There is no need for the company to pay corporation tax.

Checklist for Director’s Loan

The following list summarises what are the rules when paying back a directors loan.

• Taking out a director’s loan is the last resort. Always consider other options first.
• You must pay back the loan within the deadline, which is nine months and one day of the year end of the company.
• Try to borrow an amount of less than £10,000.
• If you need to borrow £10,000 or more, then make sure to report it on your self-assessment tax return. The company needs to treat it as ‘benefit in kind’.
• You must wait out the 30-day period before taking out another director’s loan.
• In case you lend money to your company, make sure that you both use the right tax treatment.
• You should not overdraw from your DLA for long periods.
• Before you declare dividends, ensure your company has made profit.

Director loans are complex and tricky. Thus, you must not use them regularly.