While directors’ loan accounts are permissible loans from a company to its directors, they can become thorny problems during annual tax returns or in cases of insolvency.

Many directors wish their company could simply write off the loans, but what are the laws around this?

Writing off a Directors Loan (DLA)

A Director’s Loan Account (DLA) can be written off by the company. Here’s what you need to know:

  1. Formal Waiver: To write off the loan, the company needs to formally declare that it will not collect the debt. This must be documented.
  2. Tax for Director: Once written off, the amount is treated like a special kind of income for the director. It’s like receiving a dividend, but it doesn’t require the company to have made a profit.
  3. Extra Company Tax: HMRC will typically see this written-off loan as a type of salary. Therefore, the company will have to pay Class 1 National Insurance Contributions (NIC).
  4. Director’s Tax Return: The director needs to mention the written-off amount when filling out their personal tax return. This will affect the tax the director has to pay.
  5. No Tax Relief for Company: The company won’t be able to reduce its corporation tax by the amount of the loan that has been written off.

By understanding these points, directors can make a more informed decision about whether or not to write off a loan.

Disclosure of an Overdrawn Director’s Loan Account in the UK

In the UK, it is a legal requirement to disclose an overdrawn director’s loan account in the company’s annual financial statements. This requirement is set out in the Companies Act 2006. The amount that the director owes to the company is generally listed in the balance sheet under “current liabilities.” If there is an agreement to pay back the loan after one year, it is listed as a “long-term liability” instead.

It may also be necessary to provide additional information in the notes accompanying the financial statements. This can include details like the interest rate on the loan, repayment terms, and any guarantees that have been made.

It is important to note that there are also tax implications to consider. An overdrawn director’s loan account may attract additional taxes and impact the company’s relationship with HMRC. Therefore, it is essential to consult with a qualified accountant to ensure compliance with all financial reporting and tax obligations.

Written off Directors’ Loans in Liquidation

When a company goes into liquidation, the insolvency practitioner (IP) has a responsibility to maximize the returns for creditors. As such, they will investigate the company’s financial affairs in detail.

If the IP discovers a directors’ loan, even if it was formally written off in the previous accounting year, they will likely consider it an asset of the company that needs to be recovered for the benefit of creditors.

However, most IPs take a pragmatic approach to recovery. If you are unable to repay the full amount of the loan, they will usually be willing to reach a reasonable settlement. This is because the alternative would be to pursue bankruptcy proceedings against you, which is typically more expensive and time-consuming, and may result in a smaller return for creditors.

If you are unable to reach a reasonable settlement with the IP, they may bring bankruptcy proceedings against you.

Here are some additional things to keep in mind:

  • If you are a director of a company in financial difficulty, it is important to seek professional advice from a qualified accountant or insolvency practitioner such as ourselves. We can help you understand your options and minimize the risk of personal liability.
  • If you have a directors’ loan that you are unable to repay, it is important to be transparent with the IP and to cooperate with them. This will increase your chances of reaching a favourable settlement.
  • If bankruptcy proceedings are commenced against you, you will be disqualified from being a company director for a period of time.