There are two main types of Directors Loans; borrowing on your business (in debit) or lending your business money (in credit). This article will focus on the former; when a director takes money out of the business that is not for their salary, dividends, or as an expenses repayment.
In theory, taking out a Directors Loan can be a handy solution to any short-term cashflow problems you may be having, but only if you know that you can pay them back in a timely manner, and with interest.
It’s also important to note that there are tax implications for the loan, they are an administrative burden, and they can make shareholders very nervous.
Generally, you will have a Directors Loan Account (DLA) from which you can take funds. There is no legal limit on the amount you can take, but anything over £10,000 will automatically be treated as a benefit in kind and must be reported on your self-assessment tax returns. You should also seek permission from your shareholders before taking an amount this substantial; if they’re nervous when you take petty cash, you really don’t want them being surprised to see that you have taken out more than £10,000!
There will likely be tax implications for taking out any amount from your DLA, but there will also be a massive tax levy if you don’t repay the loan within nine months of the end of the year in which it is reported. And before you think that you can just repay the loan and then take out a new one straight after, HMRC has anti-avoidance rules in place to prevent this. Additionally, will become immediately repayable on insolvency.
Directors Loans are taxed through Corporation Tax and through interest for a benefit in kind, but you will need to be careful on the interest rates you pay, as there can be traps here too. Your company will decide the interest rate on your loan, but if the interest rate is below the current official rate, HMRC will consider this a benefit in kind and tax you on the ‘discount’.
Overall, the risks associated with a Directors Loan are usually too great to justify their use. Whether you take them in times of plenty or times of struggle, you simply can’t know what the state of your business will be like in the next six months, and you might end up subjecting yourself to harsh tax penalties if you’re unable to repay it.
