If your company enters liquidation and your director’s loan account is overdrawn, then you will be required to repay what is owed.

In this article we’ll explore your options if you’re entering insolvency, as well as how the liquidator will handle an overdrawn directors loan.

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Consequences of an Overdrawn Directors Loan Account in Liquidation

The liquidator – who will be a licensed insolvency practitioner – has an obligation to try and ensure creditors are repaid and they will do this via the sale of the company’s assets. They will check the company’s financial situation to see what assets are held and which creditors are owed what.

Liquidators are highly experienced in understanding the company’s balance sheet and the director’s loan account, showing each withdrawal and repayment, will be part of that investigation.

The liquidator will want to see the overdraft is cleared in full as this will leave creditors in a better position – you, as director, will be approached to repay what is due. 

Personal Liability for Overdrawn Director’s Loan Accounts in Insolvency

Owing an overdrawn directors loan could hold you liable in the following ways:

  1. The liquidator could choose to pursue adirector through the courts. This could well be the case if the assets (when sold) are insufficient to pay creditors and a large outstanding director’s loan is seen as one of the few routes available.
  2. Directors can be pushed into personal bankruptcy when unable to pay back overdrawn loans.
  3. The insolvent limited company could face an Insolvency Service probe if there are questions as to why the loan account is overdrawn. There could be suspicions as to why a large amount is owing when the business is insolvent and why did directors allow matters to reach this stage?
  4. Potentially, the director could then face prosecution such as for wrongful trading and be hit with fines and disqualification from running a limited company for up to 15 years. 

What are the Rules on Repaying the Overdrawn Loan Account?

In normal circumstances – so when a company is not in liquidation – an overdrawn director’s loan account must be repaid within nine months and one day of the company’s financial year end. If the amount owed is more than £10,000 and it is not repaid within this time, then the director may be liable for income tax as HMRC could see this as a withdrawal and instead require income tax and national insurance to be payable.

An overdrawn director’s loan account means you owe the company money and after the nine month period, the clock starts ticking. Fail to pay and the limited company will incur a corporation tax penalty of 32.5% of the loan.

HMRC will also charge the company interest on the loan until a point where the corporation tax levied on the loan or the director’s loan account is repaid.  Once HMRC has picked up that there is financial difficulty, matters and the tax burden will only increase.

So What Happens to the Director’s Loan Account in Liquidation?

With a profitable business, there are ways to write off an overdraft, but there are still tax implications and advice should be taken. But, this is not in the case of a limited company and insolvency.  Even if a director has sought to attempt to do this, the liquidator will uncover such action and the amount will be reinstated.

The liquidator has a clearly stated responsibility to company creditors, not the directors. As such, where they discover this they have to try and recoup the maximum for the benefit of all. That can mean a challenging situation for directors, perhaps even being forced into personal bankruptcy.

This situation could actually worsen still if the company is forced into compulsory liquidation. In this case the liquidation is overseen by the Official Receiver, They may actually look with even more forensic scrutiny at the actions of directors, and that could look to charges of misfeasance or wrongful trading.

The essential point is that overdrawn directors loans are not seen as company money, but the directors money. Hence there is no protection from liability and they must be paid back by directors.

One option which is sometimes mooted is that directors sometimes come to an arrangement with the liquidator whereby the money paid back towards the overdrawn director’s loan is used as payment for the liquidation fees. Your appointed insolvency practitioner will be able to discuss whether this is a possibility based on the level of your overdrawn director’s loan and your ability to repay this to the company.