A question that we often get asked from SME business owners is – “Can I borrow money from my Company?”
The thinking here is along the lines of…..…..sure it’s my company, my money! Unfortunately this is not so.
Let’s take a company called Sunny Summer Limited. Sunny Summer Limited happens to rent out sunbeds on beaches all around Ireland! Due to the great weather this year the company is having a bumper year. It is owned by Chris Ronaldo. Chris takes a weekly salary and this goes through payroll as an employee along with his other employees. Due to the great year the company has built up extra cash reserves. By the end of July it has €40,000 in the company bank account. Chris is considering buying a new boat personally to use around the bay in Tramore J! This is going to cost him €10,000.
Chris decides to ask his Accountant – can I take a loan of €10,000 from Sunny Summer Limited?
Thankfully Chris asked his Accountant first. The starting position as an answer to this question is No. This may seem strange to many business owners but the important thing to remember, especially when you move from being self-employed as a sole trader to trading through a company, is remembering that the Company is a separate legal entity with its own identity. In the eyes of Company Law and Revenue this is also the case.
Come on….surely there is a way?
Well maybe…..but it has to be done right! There are two things that need to be considered – Company Law and the Tax Implications.
The general rule is that loans to Directors are prohibited under Company Law (the boring part is Section 239 Companies Act 2014 in case you don’t believe me!). There are five occasions or exemptions from this rule as follows:
- If the value of the loan is less than 10% of the net assets of the company (best determined by the retained profits figure on the company balance sheet -rule of thumb would be to take the last set of Accounts and see what the balance sheet total says and multiple this y 10%)
- If the transaction is for the reimbursement of expenses
- If the transaction is to a group company
- If the transaction is in the ordinary course of business
- If the company goes through a specific procedure called a Summary Approval Procedure
In the case of Chris, options 2 – 5 were ruled out (as they would possibly be for most owner managed businesses) so the only option that might allow him to receive a loan from the company was under option 1. We looked at the prior year net assets figure in his accounts and as he had been fortunate to be profitable in the past the total Net Assets of the company were €150,000. 10% of this Net Assets figure was €15,000. As the proposed loan was for €10,000 this was below the 10% threshold and so was allowable under Company Law. It is also important that the loan is documented and approved by the Board.
Tax when borrowing company money
Brilliant says Chris – I will transfer that €10,000 into my bank account later today and by tomorrow I will be out on the water in the new boat!
There are also tax considerations. These arise both for the Individual and the company.
The loan is considered a preferential loan and gets assessed for Benefit in Kind. This is calculated by applying a notional Interest benefit and put through payroll. Assuming that no interest is being charged by Sunny Summer Limited revenue has one of two rates to be used to determine the benefit depending on what the loan is for:
- Qualifying Home Loans 4%
- All other loans 13.5%
A qualifying home loan would effectively have to be towards the purchase of your Principal Private Residence.
In the case of Chris, he will be assessed on notional income of €1,350 over a year (€10,000 x 13.5%). The interest will be calculated on a daily basis so if the loan was only for a portion of the year the notional income would reflect that. Assuming he is on the high rate of tax this would be a tax cost to Chris of €702 (€1,350 x 52%) if he kept the loan for a year.
In addition, if the loan remains outstanding at the time that the company files its Corporation Tax Return, Sunny Summer Limited will have an obligation to pay Income Tax of 25% on the balance (€2,500). This will become refundable to the company once the loan has been repaid.
Loans to Directors or connected persons are tricky. While they may be allowable and may have a purpose there are certain steps to be followed and taxes to be paid to ensure there are no issues down the line. In return for the limited liability protection that you have as a shareholder, it is only right that protections are put in place to safeguard the interests of suppliers and other stakeholders.
For more advice and information check out our resources.