Directors loan accounts: The tax traps of using your company as a personal bank account

For an owner-managed company, it is common for director-shareholders (hereon in referred to as directors) to borrow money from their company, thereby creating an overdrawn director’s loan account (DLA). Many directors are aware that unless one of the limited exemptions apply, a repayable tax charge of 33.75% of an increase in a loan over an accounting period can arise if the loan is not repaid to the company within 9 months of the company’s year end. This is commonly referred to as a section 455 charge and applies to close companies. Broadly speaking, a “close” company is one that is controlled by five or fewer shareholders, although the precise definition is wider than this. More details on DLAs and the section 455 charge can be found here.  

The rules are however more complicated than the 9-month rule referred to above. Anti-avoidance rules exist to levy the section 455 charge in certain situations where the director seeks to manipulate the rules to avoid this, and other tax implications can arise if care is not taken.  

The main tax traps include:

1. Making the loan interest-free or charging interest at less than the official rate of interest at anytime it exceeds £10,000. In this instance, tax will be payable on the “benefit” received by the director, the benefit being the interest which should have otherwise been charged at the official rate less any interest actually paid. The official rate of interest is set by HMRC. 

2. Repaying the loan just before the 9-month deadline and shortly after receiving a new loan. This practice, commonly referred to as bed-and-breakfasting, is often ineffective to avoid the section 455 tax charge. If the repayment of a DLA is not genuine or “permanent”, the repayment will be ignored for the purposes of section 455 tax in the following circumstances: 

• The “30-day rule”: within any 30 day period a repayment of a loan subject to s455 is made in excess of £5,000 and a new loan is made in excess of £5,000. 
• The “arrangements rule”: Where the total loan exceeds £15,000 before repayment and arrangements are in place at the time of the repayment for a new loan in excess of £5,000 to be advanced. 

3. Writing off the DLA balance. The director will pay tax on the loan written off as if they received a dividend. National insurance will also be payable by both the director and the company, making this a costly option. 

The examples below illustrate some of the more straight forward situations where the anti-avoidance rules can apply when trying to manipulate DLAs. There are many other complexities, so seeking professional advice is recommended.  

Examples of loans

Constable Limited is a close company with a 31 March year end. The company has three shareholders, Leigh, Yvette and Dave, all of whom are also directors in the company.   

Loan 1 

Leigh takes an interest free-loan from the company of £20,000 on 1 May 2023. She plans to repay this on 31 December 2024, i.e. within 9 months of the year end, but she only gets around to making the repayment on 5 January 2025. 

Since the loan was repaid more than nine months after the company’s year end, section 455 tax will be due of £6,750 (£20,000 @ 33.75%). The amount is payable with the company’s corporation tax bill on 1 January 2025.  

The good news is that the section 455 tax will be repaid once Leigh repays the loan. The bad news is that there is a delay in obtaining the refund – the tax becomes repayable 9 months after the end of the accounting period in which the loan was repaid. Since the loan was repaid in the year ended 31 March 2025, the section 455 tax will be repayable to the company on 1 January 2026. 

In addition, since Leigh’s loan was above £10,000 and was interest free, she will be assessed to a benefit in kind on the interest which should have otherwise been charged by reference to HMRC’s official rate of interest.  

Loan 2 

Yvette takes an interest-free £10,000 loan from the company on 31 October 2023. Unlike Leigh, she successfully repays her loan on 31 December 2024, but she takes another loan out of £7,500 on 15 January 2025. 

Although the loan was repaid within 9 months of the company’s year end, the 30-day bed and breakfasting rule applies. The repayment amount attributed to the new loan advanced will be ignored. Therefore section 455 tax of £2,531.25 will be due (£7,500 @ 33.75%). It will not apply to £2,500 of the original loan as this amount was genuinely repaid.  

Although no interest was charged on the loan, no benefit in kind arises since the loan balance did not exceed £10,000 at any time. 

Loan 3 

Dave takes a loan from the company of £25,000 on 1 July 2023, upon which he pays interest at the official rate. To repay the loan, Dave takes out a short-term bank loan and repays the funds to the company on 15 December 2024. As he intended all along, Dave then takes a new loan from the company of £25,000 on 31 March 2025 to repay the bank loan. 

This will be caught under the arrangements rule as clearly arrangements exist for Dave to take out a further loan to repay the bank loan. The temporary repayment will therefore be ignored and section 455 tax will be due on the full £25,000 loan of £8,437.50 (£25,000 @ 33.75%). 

How Moore Kingston Smith can help

For advice and support on any of the issues discussed, please do not hesitate to contact our Entrepreneurial Tax team.