Directors loan accounts: Pass it on?

An instance where an overdrawn director’s loan account balance caused an unexpected tax charge for a director shareholder.

Director’s loan accounts (DLAs) are a typical function in the monetary declarations of family and owner-managed companies particularly.

In certain scenarios, a privately-held company is subject to a 33.75% tax rate when it prolongs a loan to a person with a considerable risk in business, such as a shareholder, often in cases where a director with a stake in the company has an overdrawn account. Nonetheless, if this tax is incurred, the company can typically claim alleviation to the degree that the loan is later repaid, forgiven, or regarded uncollectible.

Nonetheless, if the loan is launched or crossed out, the shareholder to whom the loan was made is reliant income tax (under ITTOIA 2005, s 415) at the same rates as dividend income (i.e., 39.35% for 2025/26). It is normally uncomplicated to establish that an exceptional DLA balance has actually been released or written off; there would (or at least ought to) be supporting documentation (e.g., a company board minute).

However, there is a potential mistake for the reckless. HM Revenue and Customs (HMRC) support (in its Savings and Investment Manual at SAIM5200) shows that an income tax fee can also attack if a financial debt is transferred (novated) to a 3rd party, leading to the initial borrower being launched. HMRC points out case law on behalf of this proposition (Collins v Addies CA 1992, 65 TC 190).

When it comes to Powell v Revenue and Customs [2025] UKFTT 528 (TC), a financial obligation novation took place. The taxpayer, that was both the director and single shareholder of a close company, called T, saw an adjustment in the company’s ownership framework on 2 July 2020, when one more company, PHSW, acquired T through a share-for-share exchange. By 31 December 2020, the taxpayer’s overdrawn director’s loan account (DLA) with T had grown to ₤ 512,713. To reorganize this financial debt, the taxpayer, T, and PHSW signed a deed of novation on 16 March 2021, which transferred the taxpayer’s liability for the loan balance from T to PHSW. Therefore, HMRC argued that the taxpayer was subject to an income tax cost under ITTOIA 2005, area 415, treating the ₤ 512,713 as a deemed dividend payment from T, consequently making the taxpayer responsible for the matching tax.

The taxpayer’s appeal was rejected, as the First-tier Tribunal established that the economic scenario continued to be the same, with T still lacking repayment and PHSW owing the specific amount that the taxpayer no longer owed to T, properly changing one debtor with an additional. The tribunal also ruled that PHSW’s debt to T did not negate the taxpayer’s obligation, as the sale of the loan interest to PHSW just meant T can no longer go after the taxpayer, not that the financial obligation was cleared up. Instead, the financial obligation was transferred to an equal worth with a various debtor. Consequently, the ₤ 512,713 financial debt remained unsettled on both December 31, 2020, and March 16, 2021, suggesting that T had not redeemed its losses, and the taxpayer’s launch from financial obligation to T was validated by the tribunal.

The taxpayer in Powell was caught off-guard by the unexpected charge of income tax. Especially, this tax liability had actually not been reported on their preliminary tax filing. It is extremely recommended that specialist assistance be gotten when considering the mercy or waiver of outstanding DLA account deficits