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Companies Making Loans to Directors – Five Key Things to Consider

15 January 2021

The role of a director in proper company administration is vital to the proper administration and ultimate success of a company.

If your company is contemplating making a loan to a director we have set out some key considerations to ensure that the transaction is both within the law and in the company’s best interests.

#1: Loans to directors are possible but some require shareholder approval.

Prior to the promulgation of the Companies Act 2006 there was a general prohibition on loans from a private company to a director. Loans are now permitted by the Companies Act but some require shareholder approval. This is achieved through an ordinary resolution of the shareholders.

It is not necessary to obtain shareholder approval in circumstances where:

  • The aggregate value of the loan (or series of loans) is less than £10,000;
  • The loan is for less than £50,000 and is intended for expenditure on company business;
  • The loan is made to a director to fund the defence of civil or criminal proceedings brought in connection with the company.

#2: Who is the beneficiary of the loan?

The shareholder approval requirements remain in force where the loan is being made to a person “connected” to a director. A connected person could be:

  • Members of the director’s family;
  • A company in which the director holds 20% or more of the share capital, or can exercise more than 20% of the voting power;
  • A trustee, where the director is a beneficiary of the relevant trust;
  • A partner of the director or a partner of someone connected with the director;
  • A legal firm where the director is a partner or a connected person is a partner.

#3: What are the tax implications?

If a director takes a loan from their company, there will be no additional tax for the company to pay on it, provided the loan is paid back nine months after the end of the company’s tax year, after which point an additional 32.5% corporation tax [S.455] is levied on the outstanding loan amount.

A director borrowing from a company could have tax implications for both the director and the company particularly in circumstances where the loan is being made as an alternative to a salary or a dividend. HMRC has strict rules regarding company lending and consequent tax deductions. Specialist tax advice must be sought prior to concluding this type of transaction.

#4: Guarantees to third parties might require shareholder approval

Guarantees issued by a company for the due performance of obligations incurred by a director or a connected person require shareholder approval if they exceed the thresholds set out above.

#5: The consequences of improperly made loans can be dire

A loan made to a director without the necessary shareholder approval could give rise to a claim that the director (or directors) are in breach of their fiduciary duties to the company to act in the best interests of shareholders. Consequently, the director may be liable to account for gain made from the loan and indemnify the company’s loss. This can give rise to civil claims and in some cases even criminal prosecution. It is thus vital that proper legal advice be obtained prior to the conclusion to the transaction.

A general guide to properly approving a loan to a director

We have set out below a very general and high-level guide to obtain the proper approval of a loan.

  • Call a board meeting;
  • Director concerned must make a written declaration of interest or if the loan is to be provided to a connected person a written declaration of “indirect interest”;
  • At the board meeting, the proposed loan should be discussed. It is important to bear in mind that while shareholder approval may not be required the approval of the board is still necessary. The board should at all times be mindful of their duties to act in the best interests of the company and only advance the loan if it will benefit the company to do so;
  • If the loan is approved and it is determined that shareholder approval is required then the directors need to agree and prepare a memorandum to be circulated amongst all shareholders. The memorandum should set out:
    • The nature of the transaction;
    • The amount of the loan and its purpose;
    • The extent of the liability being assumed by the company.
  • At the same meeting, the directors must resolve to either call a general meeting where the proposed loan may be voted on or circulate a shareholders’ written resolution.
  • The memorandum must be made available to the shareholders either with the written resolution or, in the case of a general meeting, made available at the company’s registered office at least 15 clear days before the meeting.
  • If the loan is approved at the general meeting (or by written resolution) the loan documents may be formally executed. It is important that the form of the loan agreement be in accordance with what was discussed and approved at the board meeting.

This article is provided by Burlingtons for general information only. It is not intended to be and cannot be relied upon as legal advice or otherwise. If you would like to discuss any of the matters covered in this article, please contact Andrew Pike or write to us using the contact form below.

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