Why getting the company to foot the bill can prove expensive…

Do you run your business using a limited company?

If the answer's yes then you're probably like a lot of business owners who view their company as an extension of their private bank account.

So you might think dipping into your company for cash to help tide you over isn't a problem.  But beware - the taxman doesn't always agree.

We're constantly reminding our clients about the tax dangers of borrowing from their company as more often than not the taxman will try and squeeze more money out of you and the company given half a chance. And that's exactly what happened in one particular case where the director had 'borrowed' money from his company.

However, the taxman argued that there was no loan involved.

Now that might be seen as good news for the director because, subject to certain rules, any loan the company makes to an employee or director where interest is charged below market rates, is seen as a benefit in kind. And the director has to pay tax on his benefits in kind (as do a lot of other employees).

So if there's no loan, there's no benefit in kind and no tax payable so what's the problem?

...unfortunately it wasn't so simple.

The taxman's 'solution' was that the money owed by the director was extra salary and so PAYE and NI was due. And that meant a lot more tax which was payable than if the money had been treated as borrowings.

So how can this happen?

Well, let's say you book a luxury holiday in the Caribbean for £11,000. You book it in your name and happily pay the £1,000 deposit from your personal bank. Then disaster strikes.

You have to pay the remainder and you haven't got enough in your bank account. But the company does. So you pay the £10,000 balance using the company bank account.

When your annual accounts are prepared it's suggested that rather than pay a bonus or dividend to cover these borrowings it's treated as an interest free loan.

This seems like a good idea.

You'd have to pay tax on the benefit in kind (probably somewhere between £100 to £200 depending on your rate of tax and the market interest rate). And the company would have to pay about £40 employer's NIC.

Of course you'd have to repay the loan at some stage, though this would be a cheap stop-gap in the meantime.

However if you received £10,000 net as extra salary or a bonus it would cost you as a 40% taxpayer a whopping income tax and NI bill of over £7000 and the company would also have to shell out over £2000 for NI.

So now you see why the taxman might prefer to treat your drawings from the company as salary rather than a loan!

Whilst we don't generally agree with the taxman's opinion, he may have a valid point here.

The tax law states that anything you receive by way of 'money or money's worth' is treated as salary. Therefore if the company pays a personal bill for you of say £10,000 it's saved you having to find £10,000 cash from your personal savings so it's 'money's worth'.

As soon as your company writes the cheque it triggers a PAYE and NI bill, so you can't then claim it as a loan.

So if in the example above, you paid the balance of your holiday using a company cheque you'll wind up with a painful tax bill that will take away the pleasure of that luxury break!

Want to know how we can help you avoid this problem? Just email me at: [email protected]

And remember, these tips are not a replacement for professional advice tailored to your precise needs and circumstances.