Coronavirus Business Bounce Back Loans are attractive, easily accessible, and cheap at just 2.5%. But, used incorrectly, you could be facing a 32.5% tax bill.
This isn’t unique to Bounce Back Loans, it’s the same for any loan. The problem and potential tax bill arises from what you do with the money, not how you got it. If, after taking out a loan, you then draw cash personally from your company via a dividend which it can’t afford, you could be facing a 32.5% tax charge.
Dividends can only be paid from profit
Legally, you can only pay dividends from your company’s profit – that’s either profit you’ve made so far this financial year, or profit you’ve retained from previous years. If you attempt to pay a dividend and you don’t have the profit, these are known as ‘illegal dividends’, and accountants will generally convert these to loans to keep your company compliant.
Specifically, they become directors’ loans, and it’s a loan from your company to you. Instead of that money being yours, as a result of a dividend payment, it’s now still the company’s money, but it has been loaned to you. You must repay the balance to the company at some point in the future.
How do I know how much profit I have available?
This is normally a hard question. You can’t, for example, just look at your bank balance and determine that you have profit available: it’s perfectly possible to have profit available, but no cash, and it’s also possible to have plenty of cash but no profit (particularly on the day your Bounce Back Loan arrives).
For inniAccounts clients, this is straightforward. Our real-time tax engine calculates your profit instantly – and you’ve probably been using it without knowing. Whenever you draw a dividend, the tax engine checks your profitability and puts limits in place to prevent you from paying illegal dividends, from profits you don’t have.
If you’re not an inniAccounts client, then we’re afraid you’ll need to ask your accountant. Of course – excuse the blatant sales pitch – you’re welcome to appoint us and gain access to our real-time tax engine!
If you don’t have profit available, it is possible to skip paying dividends and instead pay cash out from your company as a directors loan.
Bounce Back Loans: caution required
If you’re in the position where you’re planning on paying out a Coronavirus Business Bounce Back Loan as a directors loan, either intentionally or accidentally, you are heading for hot water. The terms of the loan specifically say they are “not for personal purposes” – which may rule out paying directors loans. Directors loans that are outstanding at the end of the company’s accounting period have to be reported to HMRC on your corporation tax return.
32.5% corporation tax on loans
Directors loans can be subject to corporation tax at 32.5% (often known as section 455 tax). This tax becomes due if you haven’t repaid the directors loan back to your company within 9 months of your company’s year end passing. This tax is payable by your company.
If you’re planning on taking a loan, and repaying it within this time period, no tax will arise. But, if you do find yourself paying section 455 tax, you can reclaim this from HMRC at a later point once the loan is cleared.
If you do have a director’s loan at the end of your company’s year, we’ll take you through the options when preparing your year end accounts.
Personal tax on loans
In addition to corporation tax, there can also be a double-whammy when borrowing money from your company: if a directors loan exceeds £10,000 at any point during the year, it’s treated as a “benefit in kind”. This can have personal tax implications, including a National Insurance charge for your company. This can be avoided if you pay your company interest on the loan at HMRC’s official rate, which for April 2020 onwards is provisionally 2.25%.
An easier alternative: payroll
There is a more straightforward alternative, which is to pay yourself a salary. By doing so, you can be confident that you and your company are paying the right amount of tax. This may be a safer option should you feel that you would be unable to personally repay a loan from your company.
But again, keep in mind that Bounce Back Loans are not for personal purposes, and insolvency practitioners (who would act on behalf of banks should you fail to repay the loan) have warned that increasing salary payments after receiving a Bounce Back Loans may be interpreted as a being for personal purposes.
Talk to us
If you are considering taking out a Bounce Back Loan, please pick up the phone and talk to us. We’ll be more than happy to talk you through the options and risks.