Money taken from a limited company that is not salary or dividends is recorded in the director’s loan account (DLA). And if the balance becomes negative, the director owes the company money, creating an overdrawn director’s loan account.
For contractors, this situation is surprisingly common, particularly when money is withdrawn informally during the year, and the final dividend position has not yet been calculated.
Overdrawn loan accounts can trigger several tax consequences if they are not handled correctly.
In this guide, Michael McCullion, director of Bright Ideas Accountancy, explains how the rules work and what contractors should watch for.
What is an overdrawn director’s loan account?
A director’s loan account records money moving between the director and the company that is not salary, dividends or reimbursed expenses.
Typical entries include:
- Money the director withdraws from the company bank account
- Personal spending paid using company funds
- Money the director lends to the company
If withdrawals exceed what the director has put into the company or received as salary or dividends, the loan account becomes overdrawn.
At that point, the director effectively owes the company money. You can read more in these related guides:
The Section 455 tax charge
The main risk arises when a director’s loan remains outstanding nine months and one day after the end of the company’s accounting period.
At that point, the company must pay a Section 455 tax charge.
The charge is currently 33.75% of the outstanding loan balance. This is set to increase to 35.75% from April 2026.
Here are some simple examples of the potential tax payable:
| Loan balance | S455 tax payable |
|---|---|
| £10,000 | £3,375 |
| £25,000 | £8,437.50 |
| £50,000 | £16,875 |
Any tax due should be paid at the same time as the company’s annual Corporation Tax payment.
This is not a permanent charge. The Section 455 tax can be reclaimed once the loan has been repaid. But you may have to wait some time for the funds to be returned.
The refund normally becomes available nine months after the end of the accounting period in which the loan was cleared.
You can read the official guidance here.
Strictly speaking, Section 455 applies to loans made by a close company to a participator.
In most contractor companies, the director is also the shareholder, so the distinction rarely matters.
However, the rule can also apply to loans made to shareholders who are not directors, or to certain associates connected with them.
The £10,000 beneficial loan rule
Loans exceeding £10,000 can trigger the beneficial loan rules if interest is not charged at the official rate.
When this threshold is exceeded:
- The director is taxed on deemed interest
- The company must report the benefit on a P11D
- The company must pay Class 1A National Insurance
The taxable benefit is calculated using the government’s official rate of interest.
The official interest rate
The official rate used for beneficial loan calculations increased from 2.25% to 3.75% from 6 April 2025.
Here is an example:
If a director owes the company £20,000 and no interest is charged:
£20,000 × 3.75% = £750 taxable benefit
The director pays income tax on the benefit, and the company pays Class 1A National Insurance.
The current rates should be available here, but they don’t yet reflect the current 3.75% rate.
The “bed and breakfasting” rule
If you repay the loan shortly before the nine-month deadline and then withdraw the funds again soon afterwards, this may still trigger the tax charge.
Anti-avoidance rules apply when:
- a loan is repaid, and
- a further loan of £5,000 or more is taken within 30 days
Under the 30-day rule, the repayment is applied to the new borrowing, leaving the original loan outstanding for Section 455.
Read more in HMRC’s technical reference: CTM61630.
How to clear an overdrawn loan
Repay the money personally
The director transfers funds back to the company bank account.
Declare a dividend
If the company has sufficient post-tax profits available, a dividend can be declared and credited to the loan account.
Pay extra salary or a bonus
You may decide to make an increased salary payment, although this will be subject to PAYE and National Insurance.
Write off the loan
This is uncommon, as the amount written is normally treated as taxable income for the director.
Why do overdrawn loan accounts occur?
There are several practical reasons why a DLA may become overdrawn, including:
- Taking money from the company before profits are finalised.
- Using the company’s bank card for personal spending.
- Paying personal bills via the company account.
- Failing to document interim dividends properly.
For obvious reasons, several of these scenarios can be avoided completely by maintaining accurate records, using accounting software, and regularly reviewing the director’s loan account.
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