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What are the Tax Implications of Loans to Employees?

24 February 2020
Jan Friend
Reducing Tax, Payroll, People

We recently had the following question from one of our clients:

‘Is there any benefit in kind for lending employees money? We have an employee with some payday loans which they are paying around 90% APR. If we lent the money and deducted payments from their salary he would pay it off in around 4 months and massively reduce the stress on him.’

A great question!

The tax position with loans to employees is that loans of £10,000 or more per employee, which are either interest free or at an interest rate below the official rate used by HMRC (currently 2.5%), must be declared on a form P11D and will result in tax payable by the employee and class 1A national insurance payable by the company.

Provided the loans are kept below £10,000 per person throughout the tax year, there are no reporting requirements and no tax or NI to pay. If, however, the loan does exceed £10,000 at any time, the benefit will be calculated on the whole amount not just the part that exceeds £10,000.

Tax on a £15,000 interest free loan for a whole tax year to a basic rate taxpayer would be calculated as follows:

£15,000 * 2.5% = £375 * 20% = £75

The rules for directors are exactly the same, however for close companies (most small and medium size companies) there is a sting in the tail- section 455 tax.

A close company is a limited company with five or fewer ‘participators’, or a limited company of which all the ‘participators’ are also directors. For most small limited companies, ‘participators’ will just mean shareholders or their close relatives.

If you have an overdrawn loan account with your own limited company – i.e. the company has effectively loaned you monies, then if the loan is not repaid within 9 months of the financial year end the company has to pay 32.5% s455 tax based on the loan balance at the accounting year end. However, that tax is repayable to the company 9 months after the end of the tax period in which the loan is repaid.

Notwithstanding the tax implications above, short term loans from your own company could still be helpful.

It is important to make sure that any loans made are properly documented in the books and records. We would recommend that you ideally get agreements set up, particularly for staff, and ensure you have the authority from the employee to deduct the loan repayments from their salaries. It is essential you seek advice from your HR adviser to avoid the possibility of making an illegal deduction and being liable for breach of contract.

If you need more advice in respect of the tax aspect of loans to employees please contact Jan Friend.

The content in this blog is correct as at 24/02/2020. See terms and conditions.

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