Tax On An Overdrawn Director’s Loan Account

Tax On An Overdrawn Director’s Loan Account Overview

The tax on an overdrawn Director’s loan account can be complicated.

When a company lends money to its Directors this can be treated as a distribution and the company can be taxed on the same.

Section 455 Additional Corporation Tax

In the case of a close company, which is one with five or fewer participators, then when money is lent to a participator if it is not repaid within nine months and one day after the year end the company will have to pay additional corporation tax pursuant to Section 455 of the Corporation Tax Act 2010:

(1) This section applies if a close company makes a loan or advances money to—

(a) a relevant person who is a participator in the company or an associate of such a participator

(2) There is due from the company, as if it were an amount of corporation tax chargeable on the company for the accounting period in which the loan or advance is made, an amount equal to such percentage of the amount of the loan or advance as corresponds to the dividend upper rate specified in section 8(2) of ITA 2007 for the tax year in which the loan or advance is made.

A participator will usually refer to the shareholders as a person who has an interest in the capital or income of a company. In addition, a close company is one in which there are any number of participators if they are also Directors.

Alternatively, a close company is also one in which more than half the assets of which would be distributed to five or fewer participators, or to participators who are directors, in the event of the winding up of the company.

Purpose Of Section 455 Tax

This is a tax avoidance protective mechanism introduced by legislation so that when Directors receive funds from a Limited company there are still tax consequences. 

In the case of RKW Ltd v Revenue & Customs [2014] UKFTT 151 (TC) the Tax Tribunal said the purpose of Section 419 of the Income and Corporation Taxes Act 1988 (which was the predecessor to Section 455)

The purpose of s.419 ICTA 1988 is to impose a charge to tax where profits, assets or value are extracted from a company without a charge to tax (being usually a charge to tax on distributions or dividends) …

This was explained further in the case of Gopaul v Revenue & Customs [2023] UKFTT 728 (TC):

Section 455 is an anti-avoidance section, the purpose of which is to discourage the owners of small companies and other “participators” from disguising distributions as loans, see RKW Ltd v HMRC [2014] UKFTT 151 at [199].

Relief From Section 455 Additional Corporation Tax

Relief from the Section 455 additional corporation tax is available by virtue of Section 458 of the Corporation Tax Act 2010 once the overdrawn Director’s loan account has been repaid (or a part of it).

The repaid amount can be used to obtain a refund of the additional Section 455 tax paid.

Tax Implication Of An Overdrawn Director’s Loan Account Settled

When a company goes into Liquidation and there is an overdrawn Director’s loan account it is possible for the Director to negotiate a settlement with the Liquidator to clear the Director’s loan account.

However, if the loan account is not repaid in full then the amount written off or released, although not repayable any further to the company in Liquidation has still in effect been distributed to the Director who received the funds in the first place. As a result, the element that has not been repaid will be taxed. 

By virtue of Section 415 of the Income Tax (Trading and Other Income) Act 2005 this amount is subject to income tax and needs to be declared on the Director’s (or participator’s) personal tax return.