Director’s loan accounts are when you as a director of your limited company get money from your company that is not a salary, dividend or expense repayment and is in effect money you’ve previously paid into or loaned the company.
We’ve written about Director’s Loans before and the tax implications of borrowing money from your own company. Here we look at what a director’ loan is, how a director’s loan account works and the benefits of a director’s loan.
What is a director’s loan account?
As a director of your limited company, your company’s assets, including the cash in your business bank account, do not belong to you directly as an individual, but the limited company itself, which acts as a separate legal entity. This is of course the price you pay for having ‘limited liability’ as a director of your limited company. Whatever your limited company experiences, you as an individual and your personal assets are protected.
As a director of your limited company, your main responsibility is to ensure you record all transactions coming in and coming out of the limited company, and that is also true for director’s loans. A director’s loan is a record of all transactions between yourself as a director and the company, it’s as simple as that!
How a director’s loan account works
As a director of as limited company, you extract funds from the company for any reason, but you must be careful to record all transactions made, in or out of the limited company, as a director’s loan.
Invariably, the transactions you tend to see in a director’s loan account will be either cash taken out by a director, or director’s personal expenses being paid using company credit card or cash.
This is where the waters muddy with director’s loan accounts, as business expenses should only be incurred by the limited company, not personal ones.
However, you can put through personal expenses via a director’s loan account in your limited company, but it is imperative that all transactions are logged correctly and clearly, so that when it comes to the accounting year-end, you should be able to see if you owe the limited company, or visa versa.
It is vitally important therefore that as a director of a limited company, you keep a very close eye on your director’s loan account transactions, which we understand at Southside Accounting can be tricky when trying to run your business. We strongly advice that you employ the services of an accounting and tax expert, like Southside Accounting, to ensure you are keeping on the right side of HMRC. Please contact us to see how we can help. HMRC also provided guidance on director’s loan accounts here.
What are the benefits of a Director’s Loan Account?
The benefits of director’s loan account means that you can loan funds from your limited company for both personal and business needs, and do so legitimately, as long as you record these loans carefully for HMRC review, that can happen at any time.
So the good news is that even though your limited company is a separate legal entity and therefore you do not officially own your limited company assets, there are ways to borrow funds from your company, above and beyond the salary and dividends you pay yourself.
So if there is a business or personal related emergency or if you need to meet a shortfall in funds, or just need a well earned holiday, you do have the option to borrow funds from your limited company, as long as you pay it back. As a short term loan, you are not subject to personal or corporation tax either, so a huge benefit of a director’s loan.
As you would imagine, however, HMRC do monitor director’s loans accounts carefully when it comes to reviewing your annual accounts, so we always suggest borrowing funds with thought and care and with some justification or reason, so in the event of any questions or tax enquiries from HMRC, you are ready to respond.
The tax implications of a director’s loan account
You can read more here on the full extent of a director’s loan account on your tax position, but in summary it is worth noting that when you borrow funds through a director’s loan, your limited company is perceived by HMRC as ‘overdrawn’.
This may sounds scary, but don’t worry. Being ‘overdrawn’ in this scenario is to ensure that any expenses or cash you borrow through the limited company is a short term loan, and that you are committed to return the funds by the annual accounts deadline, which is 9 months and 1 day from your accounting year-end date.
If for any reason you do not pay the loan back by this deadline, you will be charged 32.5% interest of the borrowed amount, a huge sum which no surprise is a good deterrent for reckless borrowing by directors.
On the positive side, if you do return what is due by the annual accounts deadline of 9 months and 1 day after your accounting year-end, you are not due any tax on the borrowed amount.
There are limits of the amount of borrowing in an accounting period of up to £10,0000. Any payments above this amount could be viewed by HMRC as a benefit in kind, and will therefore be subject to both income and corporation tax.
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Written by Shaima Todd.