What Is a Director’s Loan Account and How Does It Work

At Towerstone Accountants we provide specialist limited company accountancy services for directors and owner managed businesses across the UK. We wrote these guides for people running a company who want clear answers on tax, payroll, Companies House duties, and day to day compliance without jargon. Our aim is to help you understand your responsibilities, reduce the risk of penalties, and know when to get professional support.

This is one of those topics that sounds technical but sits right at the heart of how many limited companies actually operate day to day. In my experience most directors interact with their Director’s Loan Account long before they realise it exists. Money moves in and out of the business, expenses are paid, personal funds are used to keep things going, and only later does someone ask how it should all be recorded.

In this article I want to explain clearly and practically what a Director’s Loan Account is, why it exists, how it works in real life, and how it fits into the wider tax and accounting picture for a UK limited company. I will also cover the most common misunderstandings I see and how to stay in control of the account so it supports your business rather than causes problems.

Why Director’s Loan Accounts exist at all

The starting point is understanding that a limited company is a separate legal entity. Even if you are the only director and the only shareholder the company is not you and you are not the company.

This separation means

• The company owns its bank account
• The company owns its assets
• The company owes its liabilities
• You are an individual dealing with the company

Whenever money moves between you and the company outside of formal pay or dividends it needs to be tracked. That is what the Director’s Loan Account does.

At its simplest a Director’s Loan Account is just a running balance showing whether

• The company owes you money
• You owe the company money

Nothing more and nothing less.

What a Director’s Loan Account actually records

A Director’s Loan Account records transactions between you and the company that are not salary wages dividends or reimbursed business expenses.

Common entries include

• Money you take out of the company bank account
• Personal expenses paid by the company
• Money you put into the company
• Business expenses you pay personally
• Dividends declared but not yet paid
• Salary accruals owed to you

Each transaction moves the balance one way or the other.

Credit balance versus overdrawn balance

The language around Director’s Loan Accounts can be confusing so it helps to be clear.

If your Director’s Loan Account is in credit it means

• You have put more money into the company than you have taken out
• The company owes you money

If your Director’s Loan Account is overdrawn it means

• You have taken more money out than you were entitled to at that point
• You owe the company money

Both situations are common. Only one of them creates tax risk.

How Director’s Loan Accounts arise in practice

Most Director’s Loan Accounts do not start with a deliberate loan agreement. They develop organically as the business grows.

Typical scenarios include

• You pay for software or equipment personally and reclaim it later
• You inject personal savings to cover early costs
• You take money out before formal pay is set up
• You use the company card for mixed personal and business spending

None of this is unusual especially in owner managed businesses. The key is recording it properly.

The difference between a loan and pay

A common misunderstanding is assuming that any money taken from the company counts as pay. It does not.

Salary must go through payroll and is subject to PAYE and National Insurance. Dividends must be declared from profits after Corporation Tax and documented correctly.

Anything else is treated as a loan by default and that is why the Director’s Loan Account exists.

Director’s Loan Accounts and bookkeeping software

Most accounting software has a Director’s Loan Account built in but it only works if transactions are coded correctly.

If personal spending is coded as an expense rather than to the loan account the true position is hidden. This is why reviewing the loan account regularly matters.

I often see loan balances that look fine on the surface but are only correct because transactions have been miscategorised.

Why overdrawn Director’s Loan Accounts matter

An overdrawn Director’s Loan Account means the company has effectively lent you money. From a tax perspective that raises questions.

HMRC is particularly interested in

• Loans to directors
• Interest free or low interest loans
• Long outstanding balances

This is where additional tax rules come into play.

The Section 455 Corporation Tax charge

If a Director’s Loan Account is overdrawn at the end of the accounting period and still outstanding nine months and one day later the company may have to pay a special Corporation Tax charge known as Section 455.

Key points

• The charge is paid by the company
• It is calculated on the outstanding loan balance
• It is separate from normal Corporation Tax
• It is refundable once the loan is repaid

This charge exists to discourage directors from using company funds as personal borrowing.

Benefit in kind implications

If the company lends you money above a certain threshold and does not charge interest at HMRC’s official rate this can create a benefit in kind.

This may mean

• Personal Income Tax for you
• Class 1A National Insurance for the company
• P11D reporting requirements

This catches many directors out because the amounts involved can feel modest.

Charging interest on a Director’s Loan

To avoid benefit in kind issues a company can charge interest on an overdrawn Director’s Loan Account at the official rate.

If this is done properly

• The benefit in kind may be reduced or removed
• The company receives taxable interest income
• You may pay personal tax on the interest

This needs to be agreed documented and applied consistently.

Repaying an overdrawn Director’s Loan Account

An overdrawn loan can be cleared in several ways depending on the company’s position.

Common methods include

• Repaying the money from personal funds
• Declaring dividends if there are sufficient profits
• Paying additional salary through payroll
• Offsetting against amounts the company owes you

The best option depends on tax efficiency timing and cash flow.

Dividends and Director’s Loan Accounts

Dividends are often used to clear overdrawn loans but this must be done correctly.

Important rules

• Dividends can only be paid from distributable profits
• They cannot be backdated
• Proper paperwork is required

Declaring dividends without profits creates illegal dividends and further complications.

When a Director’s Loan Account is in credit

A credit balance is generally less problematic but still important.

If the company owes you money

• You can withdraw it tax free
• It is not income
• It does not trigger PAYE or dividend tax

However large credit balances should still be documented clearly so it is obvious why the money is owed.

Introducing personal funds into the company

When you put your own money into the company this usually increases your Director’s Loan Account credit balance.

This is common in the early stages of a business and gives flexibility later. You can draw that money back without tax once the company has funds.

Record keeping and documentation

Director’s Loan Accounts must be supported by proper records.

This includes

• Clear transaction descriptions
• Accurate bank reconciliations
• Dividend vouchers where relevant
• Loan agreements if interest is charged

Good records protect you if HMRC ask questions.

What HMRC look for

When HMRC review Director’s Loan Accounts they focus on behaviour patterns rather than one off errors.

They are interested in

• Persistent overdrawn balances
• Personal spending through the company
• Lack of repayment plans
• Missing documentation

Clear consistent treatment reduces risk significantly.

Common mistakes I see directors make

The same issues appear again and again

• Assuming profits equal cash
• Treating the company bank account as personal
• Forgetting the nine month deadline
• Misunderstanding dividends
• Ignoring benefit in kind rules

These mistakes are rarely deliberate but they can be costly.

How to manage a Director’s Loan Account properly

In practice good management comes down to visibility and planning.

I usually recommend

• Reviewing the loan account monthly
• Paying yourself regularly rather than ad hoc
• Separating personal and business spending
• Planning dividends in advance
• Asking questions early

Small habits prevent big problems.

The role of an accountant

This is an area where professional input makes a real difference.

An accountant will

• Monitor the loan account throughout the year
• Advise on tax efficient solutions
• Ensure compliance with rules set by HM Revenue and Customs
• Handle reporting and claims
• Reduce the risk of penalties

From experience directors who understand their Director’s Loan Account sleep better at night.

Final thoughts from experience

A Director’s Loan Account is not something to fear. It is simply a mechanism to keep track of money moving between you and your company.

Used properly it gives flexibility and clarity. Ignored or misunderstood it becomes a source of unexpected tax bills and stress.

The key is understanding that the company is separate from you and treating it that way in practice not just in theory. Regular review clear records and timely advice turn the Director’s Loan Account into a useful tool rather than a problem waiting to happen.

You may also find our guidance on What happens if my Director’s Loan Account is overdrawn and Can I lend money to my limited company helpful when exploring related limited company questions. For a broader overview of running and managing a company, you can visit our limited company hub.