What is a Director’s Loan Account?

When I’m talking to my Limited Company Director / Shareholder clients about their accounts, I pretty much always mention their Director’s Loan Account. I might even abbreviate it to DLA because it sounds cooler and I can’t be bothered to say Director’s Loan Account as it’s a pain. I’m getting bored typing it – Director’s Loan Account….

However, particularly with newer business owners, I find myself needing to explain the concept of a DLA. So, I thought it would be useful to give a brief explanation in a blog.

What is a Directors Loan Account?

To put it simply, the DLA is an account within your accounting software – you’re using accounting software, right? – which tracks what monies are owed to, or by, the Company Director(s).

For example, if you’ve made a decent profit, you might (following some tax advice from your much loved accountant) declare a dividend, however you intend to draw it out over the coming months rather in one lump. The dividend will go to your DLA as an amount owed by the company to you, the Director. Then when you draw down on it each month, that balance is reduced until it’s been drawn in full.

Beware of the Overdrawn DLA!!!

An overdrawn DLA occurs when the Director / shareholder has drawn out more money than they are entitled to.

You may be thinking ‘how is that possible? Surely if the money is there to be taken, it’s the Directors / Shareholders to take?’

In most instances, that’s pretty much true. Generally speaking, a company that has money, has earned it through profit generation, which can be extracted as a dividend. However, there are instances where a company can have cash which was not generated by profit

Dividends can be paid to shareholders from its accumulated profits. If there are no profits, then a dividend cannot be paid out.

COVID has brought about a common situation where companies have not been generating profit, due to being closed or just having reduced income. However the company has been able to get its hands on cash through the Bounce Back Loan Scheme (read more about that here).

As this cash was not a result of profit generating activities, it’s not a ‘distributable reserve’ so can’t be paid out as a dividend.

However, many Directors have indeed been drawing this money out for their personal benefit.

The result, is that these drawings will get allocated to the Director’s Loan Account and will effectively be a loan that the Director needs to pay back to the company.

HMRC don’t like this as they see it as the Director having had money that hasn’t been taxed in any way.

HMRC’s solution is to tax the company on the outstanding loan balance at a rate of 32.5%, unless the ‘loan’ gets repaid to the company within 9 months of the year end.

So, if you take £10,000 out of your Company without it being taxed as a salary or a dividend, and it is not repaid within 9 months of the year end, HMRC will want £3,250 in tax.

This tax does get repaid once the £10,000 loan gets repaid to the company, however. But be aware, this repayment isn’t automatic, and you will need to let HMRC know when it has been repaid so they know to repay the tax.

Beware the lazy accountant / bookkeeper!!!

A common issue I have seen throughout my career is where expenses get allocated to a client’s Director’s Loan Account because the person doing the bookkeeping didn’t know what the cost related to, so assumed it was personal.

This tends to happen where invoices aren’t supplied, either physically, or using software such as Dext. The bookkeeper then thinks that, because you didn’t provide a receipt for a cost that went out of your business bank account, it mustn’t be for business, which isn’t always the case. The reality is that the invoice is likely sat in your Amazon account because you forgot to print it out, or upload it to Dext.

This lazy, or uneducated assumption effectively means that you, as Director, owe the company money because the company paid for something on your behalf which did not relate to the business.

How to manage your DLA

Make sure you are reviewing your DLA regularly for entries that do not belong there, and then discuss these with your bookkeeper to get them reallocated to the correct place.

Otherwise, you may be in for a shock when that £10,000 you paid into the business to get it started, is no longer showing as being owed to your in your accounts.

To try to avoid these issues, it is important to work with your accountant to understand what is in your Directors Loan Account, what money is available for you to draw out, and what that means in terms of tax, so that you can appropriately plan ahead.

Now that you know what a Directors Loan Account is and how it gets used within your business, why don’t you get in touch to discuss further.

Just call on 01604 662670 or email [email protected]