Directors of limited companies often take money out of their business in different ways, through salaries, dividends, or loans. While Directors’ Loan Accounts (DLA) can be useful for short-term cash flow needs, overdrawn directors’ loans can have tax implications and potential risks if not managed correctly. The Autumn Budget of 2024 introduced key changes, making it even more important to stay compliant. Here’s a clear breakdown of what you need to know.
What is a Directors’ Loan Account (DLA)?
A Directors’ Loan Account (DLA) records any money a director takes from or repays to the company that is not salary, dividend, or expense reimbursement. If the director withdraws more than they have put in, the DLA is considered overdrawn.
This can happen when a director:
- Takes money from the company without declaring it as a salary or dividend
- Uses company funds for personal expenses
- Withdraws more than their declared dividends
Key Changes to Overdrawn Directors’ Loan Accounts in 2025
There are numerous important updates that cam into effect in 2025:
- The Corporation Tax surcharge on overdrawn DLAs not repaid within nine months of the company’s financial year-end has increased from 33.75% to 35%
- Companies must now report overdrawn DLAs exceeding £5,000 to HMRC, previously £10,000
- Directors with unpaid DLAs at the time of insolvency face higher personal liability risks and potential disqualification
These changes highlight the need for proper management of DLAs to avoid tax penalties and legal consequences.
Tax Implications of Overdrawn Directors’ Loan Accounts
Corporation Tax Surcharge
If a loan is not repaid within nine months after the company’s financial year-end, a Corporation Tax surcharge applies. The tax rate is now 35%, increasing the financial burden on companies. This tax is refundable once the loan is fully repaid, but refunds can take time as HMRC only processes them in a future Corporation Tax return.
Benefit-in-Kind Tax
Loans exceeding £5,000, lowered from £10,000 in 2025, are considered a benefit-in-kind if interest is not charged at HMRC’s official rate. The director must pay income tax on the loan, and the company must pay Class 1A National Insurance Contributions. The loan must also be reported on a P11D form. To reduce the tax burden, companies can charge interest at HMRC’s official rate, currently 3.75% for 2025.
Dividend Mismanagement Risks
Some directors misuse dividends to cover an overdrawn DLA. If a company declares dividends without sufficient retained profits, HMRC can classify these as illegal dividends, leading to additional tax penalties.
Legal Risks of Overdrawn Directors’ Loan Accounts
Overdrawn DLAs also carry legal risks, particularly if a company is struggling financially. If a company goes into liquidation, an overdrawn DLA is considered a company asset, meaning the director may be legally required to repay it immediately. Mismanagement of DLAs can lead to accusations of fraudulent trading or misappropriation of funds, increasing the risk of director disqualification. During insolvency proceedings, creditors may demand repayment of overdrawn DLAs before settling other liabilities.
How to Manage and Avoid Overdrawn Directors’ Loans
Repay the Loan Within Nine Months
To avoid the 35% Corporation Tax surcharge, ensure the loan is repaid before the deadline.
Declare as Salary or Dividend
If a company has sufficient profits, the loan can be converted into a salary, subject to PAYE and NICs, or a dividend, subject to dividend tax rates. This ensures proper tax compliance.
Charge Interest to Reduce Benefit in Kind Tax
If the loan exceeds £5,000, charging interest at HMRC’s official rate can help minimise the benefit-in-kind tax liability.
Keep Clear and Accurate Records
Regularly monitor the Directors’ Loan Account to ensure transactions are properly recorded and compliant with tax regulations.
Plan Dividends Carefully
Avoid declaring dividends if the company does not have enough retained profits, as this could lead to HMRC penalties.
Seek Professional Advice Early
Engage a tax specialist to prevent issues before they arise, especially if your company regularly relies on directors’ loans.
How Nordens Can Help You
Managing Directors’ Loan Accounts correctly is crucial to avoiding unnecessary tax liabilities and legal risks. At Nordens, we can help ensure correct reporting and compliance, advise on structuring salary and dividend payments for tax efficiency, and assist with repaying or restructuring an overdrawn DLA to prevent penalties. We also support businesses dealing with HMRC queries and insolvency situations, helping to protect directors’ interests.
Got questions about Directors Loans or need expert advice? At Nordens, we offer assistance with all of your business needs: from your everyday accounting to Advisory, Tax, Audit and more. If you need support with any of the above or just want to speak to a member of the team, get in touch today.
