Budget 2013 announced various anti avoidance measures aimed at “loans to participators”, this is the technical term for what we call “your overdrawn directors loan account”.
Where a company makes a loan or advance to a participator (which to all intents and purposes means you as a director), it must account for tax at 25% on the amount of the loan.
There is no liability to tax under these provisions where the loan is repaid within 9 months of the end of the accounting period in which it is made. In this situation the loan must still be reported on the company’s tax return but there is no actual requirement to pay the tax.
Any tax payable under these provisions is due at the same time as the company’s mainstream corporation tax liability for the accounting period in which the loan is made. This is 9 months and 1 day from the end of the accounting period.
B Ltd makes a loan on 1 April 2011 of £20,000 to Mr B, a participator. B Ltd prepares its accounts annually to 31 December. At 1 October 2012 the whole amount of the loan remains outstanding.
B Ltd must account for tax of £5,000 (£20,000 x 25%) to HMRC with its mainstream corporation tax liability for the accounting period ended 31 December 2011.
When the loan is repaid, the company can make a claim for the tax to be repaid. Where the loan is partially repaid, a claim may be made for recovery of the tax on the proportion repaid.
C Ltd made a loan on 1 April 2009 of £5,000 to Mr C, a participator, and accounted for tax of £1,250. On 1 July 2011, Mr C repaid £3,000. C Ltd can therefore make a claim to recover £750 (3,000/5,000 × £1,250).
A repayment of tax under these provisions will not generally be made earlier than 9 months and 1 day from the end of the accounting period in which the event giving rise to the repayment occurred. A repayment of this tax after this date will carry interest from this date (or the date the tax was actually paid if later) until the date the repayment is made.
In addition to the close company provisions, the normal beneficial loan rules apply where the loan is made to a director or employee i.e. a benefit in kind charge accrues on you for the difference between the interest you actually pay, and the “official rate of interest” (currently 4%). This applies even if the loan was outstanding for a just a short period of time.
So what’s changed?
Certain owner managed companies have previously been extracting funds from the company through overdrawn directors loan accounts, which are then repaid by crediting the loan account just before the date when tax would become due. They would then subsequently recreate a similar debt to the company.
Such tactics are now being targeted by HMRC as previously there were no specific rules to prevent it.
The repayment provisions are to be amended so as to deny relief for the loan to participators tax charge where repayments and re-drawings are made within a short period of time of each other, or there are arrangements (or an intention) to make further chargeable payments at the time repayment is made (and there are subsequent re-drawings).
Therefore, If, within a 30 day period, a repayment of over £5,000 is made to the company and then amounts are redrawn any relief that would have been due will be denied. Also where a debt of at least £15,000 is outstanding, a further restriction applies. If the participator repays the debt and at that time there are either arrangements in place to redraw such sums, or there is an intention to redraw, relief will be denied for the repayment, regardless of the period of time elapsing. As such these provisions will also cover the case where a repayment is made simply to recover the tax that may have already been paid before a further advance is made.
The effect of this being that the loan to participators tax charge can no longer be avoided by repaying the loan within 9 months of the accounting period end if a loan is taken out again soon after or there is an intention to do so. Therefore such ‘bed and breakfasting’ is no longer a possibility.
So what does it mean to you?
We see this most often in companies where the directors casually withdraw funds out of their business for living expenses etc, resulting in the directors loan account becoming overdrawn. Normally a dividend is subsequently voted to clear the overdrawn balance.
However, care is needed to ensure that the company law requirements are satisfied. And that dividends are properly voted, paid and documented (with dividend vouchers and minutes). It is also important to appreciate when a dividend is paid – HMRC state that a final dividend creates an immediately enforceable debt, whereas interim dividends can only be regarded as due and payable when actually paid.
With HMRC now looking more closely at directors loan accounts, this is a risky strategy, especially when your accounts are completed some time after your year end.
So what’s the answer?
- Get your books and records to us as soon as possible after your year end.
- If you normally withdraw funds “in anticipation” of a future dividend, consider voting a quarterly / monthly dividend in advance, so that your loan account is always in credit. (I would strongly suggest you ask us to conduct a tax planning exercise before causing yourself a tax problem!)
- Keep contemporary paperwork – we would happily provide you with a template for the minutes and dividend vouchers, or of course, we can complete them for you, if you inform during the year as and when you withdraw funds.
- Consider asking us to prepare quarterly management accounts – this way when can make sure we keep us as tax efficient as possible!