Tax-free loans and disguised remuneration

The most usual form of taxes which arise in a small and medium sized company are PAYE and National Insurance due on employees’ salaries (including directors), VAT if applicable on goods and services which are collected by the supplier on behalf of HMRC, and corporation tax chargeable on a company’s profits.

• Most responsible directors and shareholders in small or medium companies will have taken advice from a reputable accountant on how to pay staff and directors and shareholders in the most tax efficient way possible
• but they also ensure that they do not fall foul of either tax legislation or legislation concerning duties to the company.

Disguised remuneration

In recent years, some directors and shareholders have gone further than to look at the most efficient use of the tax thresholds, and have used ‘disguised remuneration’ schemes in order to try to avoid liability for tax on their income. The increased use of such schemes over recent years has led the government to introduce more and more legislation to prohibit schemes set up solely for the purposes of avoiding tax, Read more here on disguised remuneration and abuse of a director’s loan accounts

Employee benefit trusts (EBT)

One of these disguised remuneration schemes is an employee benefit trust. This usually involves an employer paying a person through a loan from a third party, the employee benefit trust.

• these are used by employers or umbrella companies as an alternative to paying a salary which would normally attract tax and national insurance liabilities.
• it is effectively a loan to an employee on terms that are unlikely to be repaid. HMRC has now closed this loophole, and these loans have to be settled with HMRC.

Director’s loan accounts tax avoidance

It is common for director shareholders to take money from the company for living expenses over the course of the year with the expectation of accounting for them in the accounts at the end of the year and meeting the tax requirements at that time.

• monies taken in this way must be recorded in a director loan account to be reconciled at the end of the year, and tax paid on the income, whether that is by way of PAYE/NIC on salary or tax on dividends declared to repay the director loan account, or a mix of both.
• however, if these loans are not repaid at the end of the year, and subjected to appropriate tax charges as remuneration, either by way of dividends, or PAYE, or both, they can also be viewed as director’s loan accounts tax avoidance, or disguised remuneration.

Charges on outstanding DLAs

Loans to directors given instead of salary but never repaid are subject to laws brought in by HMRC to combat tax evasion. If a director loan account is not settled by way of properly declared dividends or put through the PAYE scheme at the end of a year, then HMRC imposes a charge on all DLAs that remain due at the year-end.

• whilst this is not a tax (as it could be reclaimed if the loan was paid back), it acts as a tax on those who take income as director’s loans without repaying them through a legitimate tax channel later. Find out more on our legal changes and loan charges page.
• the ‘Loan Charge’ is a method by which HMRC enforces the obligation to pay tax via a charge against sums loaned (which, as a loan, would otherwise not be liable for tax).

Risk of personal liability with a DLA

In addition to the risk that directors and companies leave themselves open to in terms of tax liabilities to HMRC, if a company enters insolvency, then any directors with an outstanding DLA to the company will inevitably also be asked to repay these loans for the benefit of the creditors of the company by a liquidator or administrator.

At Francis Wilks & Jones we frequently advise companies on all aspects of tax and legal matters that arise within a company situation. Our tax team has many years of experience of dealing with tax disputes of all kinds, and our company rescue team specialises in claims arising out of insolvency and breach of directors’ duties. If any of these matters affect you or your business, the sooner you speak to an expert, the greater the chance of resolving the issues. Contact one of our friendly team today.

FWJ did precisely what it set out to do. I am extremely grateful for its assistance.

A client who had received a Request for Security from HMRC for a sum that would have caused their company severe financial difficulties. We helped them to have the entire bill withdrawn