Overdrawn Director’s Loan Accounts
If your company is approaching liquidation and your director’s loan account is overdrawn, the balance needs to be considered carefully.
An overdrawn director’s loan account normally means that you owe money to the company. When the company enters liquidation, that debt is an asset of the company and the liquidator must consider recovering it for the benefit of creditors.
This is different from becoming personally liable for the company’s ordinary debts. The starting point is to establish exactly what the loan account balance is, whether it is correct and what realistically can be done about it.
What is a director’s loan account?
A director’s loan account records money passing between a director and their company that is not simply salary, a properly declared dividend, an expense reimbursement or repayment of money previously introduced by the director.
The account can move in either direction.
If the loan account is in credit
The company owes money to the director. The director may therefore have a claim against the company.
If the loan account is overdrawn
The director owes money to the company. The balance is recorded as an asset of the company and may need to be repaid.
It is the second situation that becomes particularly important when an insolvent company enters liquidation.
How does a director’s loan account become overdrawn?
An overdrawn balance can arise gradually rather than through one obvious loan.
Common examples include:
- Cash withdrawn from the company by the director
- Personal expenses paid from the company bank account
- Personal credit-card expenditure paid by the company
- Regular drawings taken instead of salary
- Amounts withdrawn in anticipation of future dividends
- Dividends later found not to be supported by sufficient distributable profits
- Transfers from the company to the director or their family
- Company payments made on behalf of the director personally
For owner-managed companies it is common for money to be withdrawn throughout the year and for the accountant to deal with the resulting loan account when preparing the annual accounts.
That approach can become problematic where the company becomes insolvent before there are sufficient profits or other valid entries available to clear the balance.
What happens to an overdrawn director’s loan in liquidation?
The debt does not disappear when the company enters liquidation.
Money owed to the company is one of its assets. The liquidator is responsible for identifying and realising company assets so far as appropriate for the benefit of creditors.
If the company’s records show that you owe money through an overdrawn director’s loan account, the liquidator will normally investigate the balance and consider recovery.
That can involve:
- Reviewing the accounting ledger
- Checking bank transactions
- Reviewing salary and expense entries
- Checking dividends credited to the account
- Considering money previously introduced by the director
- Reconciling repayments made to the company
- Establishing the correct balance at the date of liquidation
- Requesting repayment where a balance remains due
The fact that the accounts contain a loan balance does not mean the figure should be accepted without checking it. Equally, directors should not assume that liquidation will simply write the balance off.
Will the liquidator demand the full amount?
The starting point is that money genuinely owed to the company is repayable.
The liquidator will therefore need to consider recovery of the amount due. How that is dealt with in practice depends on matters including:
- The amount outstanding
- The evidence supporting the balance
- The director’s ability to repay
- The likely costs of recovery
- Whether the balance is disputed
- Whether there are other claims between the director and the company
- The likely benefit to creditors of pursuing the debt
In appropriate circumstances a liquidator may consider a repayment arrangement or a commercial settlement. A director does not, however, have an automatic right to pay only part of the balance or to have the debt written off.
If a settlement involves part of the loan being formally released or written off, separate tax consequences may also arise.
Check whether the loan account balance is actually correct
Before assuming that the figure in the latest accounts is the amount you will have to repay, the account should be reconciled properly.
Items worth checking include:
- Money you previously lent to the company
- Business expenses you paid personally but were never reimbursed
- Salary properly due but not entered into the accounting records
- Repayments you have already made
- Transactions posted to the wrong director
- Duplicate bookkeeping entries
- Dividends credited to the account
- Personal expenditure incorrectly classified
- Amounts due between you and another group company
Where the bookkeeping has not been kept fully up to date, the balance shown in the last statutory accounts can be materially different from the position at the date of liquidation.
We would therefore normally want to understand how the figure has arisen before discussing its consequences with you.
Can I use a dividend to clear my director’s loan account?
Potentially, but only where a dividend can lawfully be paid.
A company can only make a distribution out of profits legally available for distribution. The fact that money has already been withdrawn by the director does not itself create profits from which a dividend can subsequently be declared.
If sufficient distributable profits exist and a dividend is properly declared, the amount credited to a shareholder’s loan account may reduce the outstanding balance.
However, where the company is insolvent or has insufficient distributable reserves, directors should not assume that a dividend can simply be created retrospectively to remove an overdrawn loan account.
An unlawful distribution may itself be repayable in circumstances where the shareholder knew, or had reasonable grounds to believe, that it had been made contrary to the Companies Act requirements.
If substantial dividends have been used historically to clear a director’s loan account, the company’s distributable reserves and dividend documentation should be reviewed.
What about salary, expenses or money I previously put into the company?
Amounts genuinely owed to the director can affect the loan account balance.
For example, the accounting records may need to take account of:
- Salary properly due to the director
- Business expenses personally paid by the director
- Money previously lent or introduced to the company
- Other properly documented amounts owed by the company to the director
These items need to be genuine and properly supported. They should not simply be created after insolvency to produce a more favourable loan account figure.
Where there is uncertainty, the company’s accountant and insolvency adviser should review the underlying entries before the final balance is accepted.
What if the company also owes me money?
It is possible for a director to owe money to the company while also having a separate claim against it.
For example, you might have an overdrawn loan account but also be owed money for a separate loan you previously made to the company.
Do not simply assume that the two figures can always be netted off informally.
Tell the insolvency practitioner about both positions so that the correct treatment can be established under the applicable accounting and insolvency rules.
Does the Corporation Tax paid on a director’s loan clear the debt?
No.
Where a close company has an outstanding loan to a shareholder, the company may have incurred a separate Corporation Tax charge in relation to the loan.
That tax charge is not a repayment of the director’s debt to the company. The director’s loan itself can remain outstanding even though the company has paid tax because of it.
If the loan is subsequently repaid, released or written off, there are separate rules governing possible relief for the company and taxation of the director.
Director’s loan account taxation can become complicated in an insolvency and specific tax advice may be appropriate where the balances are material.
What happens if the liquidator writes off part of the loan?
There is no automatic right to have an overdrawn loan account written off because the company has entered liquidation.
Where all or part of a loan is genuinely irrecoverable, or a commercially justified full-and-final settlement is reached, the liquidator may in appropriate circumstances release or write off the remaining balance.
That can have tax consequences for the director.
HMRC’s rules can treat the amount released or written off as taxable income, and National Insurance consequences may also need to be considered.
A director considering a settlement should therefore look at the net personal cost rather than assuming that a £20,000 write-off, for example, simply makes £20,000 of liability disappear without further consequence.
What if I cannot afford to repay the director’s loan?
Tell the liquidator or proposed insolvency practitioner honestly at the earliest opportunity.
Your ability to pay does not make the debt disappear, but it is relevant to how recovery may be approached.
The liquidator may want information about matters such as:
- Your income
- Your available savings
- Your personal assets
- Other personal debts
- Existing financial commitments
- Whether payment by instalments is realistic
- Whether a commercial settlement can properly be considered
If a substantial debt is established and remains unpaid, the liquidator may take legal recovery action.
For a director living in Scotland, an unpaid personal liability can ultimately bring Scottish debt-enforcement procedures into consideration and, in serious cases, personal insolvency or sequestration may become relevant.
If there is a real risk that you cannot meet a substantial loan-account claim, independent personal debt or legal advice may therefore be appropriate alongside the company insolvency advice.
Could my house be at risk because of an overdrawn loan account?
Not automatically, but a large director’s loan can become a significant personal debt.
The liquidator does not simply acquire ownership of your personal assets because the company enters liquidation.
However, if the company has a valid claim against you, the liquidator can seek recovery of that debt. If a substantial personal debt remains unpaid, normal enforcement and personal insolvency consequences may ultimately affect personal assets.
The position should therefore be reviewed early where the loan balance is large in comparison with your ability to repay it.
Will an overdrawn loan account lead to director disqualification?
Not simply because the account is overdrawn.
Director’s loan accounts are common in owner-managed companies. The existence of a balance does not itself establish misconduct.
However, the circumstances in which money was withdrawn and what happened once the company became financially distressed may be relevant to the liquidator’s wider review of director conduct.
Issues may attract greater attention where, for example:
- Large sums were withdrawn when the company was already insolvent
- Company assets were used primarily to benefit directors or connected parties
- Money was diverted away from creditors
- Records relating to the loan account are incomplete or misleading
- Transactions were deliberately concealed
- The director repaid themselves ahead of creditors after insolvency became apparent
The correct approach is to disclose the position fully and establish the facts rather than attempt to alter or hide the account before liquidation.
Should I repay my director’s loan before the company enters liquidation?
If you genuinely owe money to an insolvent company, repaying that money increases the resources available to the company and its creditors.
However, the wider circumstances should still be reviewed before significant transactions are made.
In particular, do not:
- Alter accounting records simply to make the loan disappear
- Create unsupported salary or expense entries
- Declare dividends where there are insufficient distributable profits
- Transfer company assets to yourself in place of repayment without advice
- Use money belonging to another company without considering the legal position
- Conceal withdrawals or destroy supporting records
If you have funds available to repay some or all of the balance, we can factor that into the overall liquidation advice.
What information should I gather before speaking to us?
If you are concerned about an overdrawn director’s loan account, useful information includes:
- The latest company accounts
- The current director’s loan account ledger
- Recent management accounts
- Company bank statements
- Dividend vouchers and supporting paperwork
- Payroll information
- Details of business expenses you paid personally
- Evidence of money you introduced to the company
- Details of repayments already made
- Any correspondence with the company’s accountant about the account
Do not delay seeking advice simply because all of this information is not immediately available. We can identify what is actually needed once we understand the broad position.
Overdrawn Director’s Loan Account FAQs
Does my director’s loan get written off when the company is liquidated?
No. An overdrawn director’s loan is normally money owed to the company and remains an asset when the company enters liquidation. The liquidator must consider recovery of the balance.
Can the liquidator sue me for the loan?
Potentially, yes. If a valid amount remains due and cannot be resolved voluntarily, a liquidator can take legal action to recover money owed to the company.
Can I repay the loan by instalments?
Possibly, depending on the circumstances and the liquidator’s assessment of the appropriate recovery strategy. There is no automatic entitlement to an instalment arrangement.
Can the liquidator accept less than the full balance?
A commercial settlement may sometimes be considered where it is justified by factors such as recoverability and the likely return to creditors. A director does not have an automatic right to a reduction, and a release or write-off can have tax consequences.
Can I clear the loan with a dividend?
Only where a dividend can lawfully be paid and is properly declared. A company must have sufficient profits available for distribution. Insolvency does not allow directors simply to declare retrospective dividends to remove an overdrawn balance.
What if the balance shown in the accounts is wrong?
The underlying transactions should be reconciled. Legitimate salary, expenses, repayments and amounts previously introduced by the director may affect the correct balance, while bookkeeping errors should also be corrected.
Does paying tax on the loan mean it has been repaid?
No. Any Corporation Tax charge arising because of an outstanding director’s loan is separate from the director’s obligation to repay the underlying loan to the company.
What if I cannot afford to pay?
Your financial circumstances should be explained to the liquidator. They may affect how recovery is approached, but inability to pay does not automatically extinguish the company’s claim. Significant unpaid personal liabilities can ultimately create separate debt-enforcement or personal insolvency issues.
Is an overdrawn director’s loan misconduct?
Not by itself. The liquidator will consider how the balance arose and the wider circumstances. The existence of an overdrawn loan account alone does not establish that a director has acted improperly.
Concerned about your director’s loan account?
If your company may need to enter liquidation and you have an overdrawn director’s loan account, it is better to understand the position before the appointment rather than discover the issue afterwards.
We can review how the balance has arisen, identify the information that needs checking and explain how the loan account fits into the wider Scottish CVL process.
The initial discussion is confidential and does not commit you to placing the company into liquidation..