Director’s Loans and Section 455 Tax: What Company Owners Need to Know

Many small business owners make a simple mistake.

They start treating their limited company’s bank account like their own personal bank account.

They need some money personally, so they transfer it from the company. Then they take some more.

At the end of the year, the accounts are prepared and they discover they’ve taken out more than the company can legitimately pay them as dividends.

That’s when director’s loans and Section 455 tax can become a problem.

You Can’t Just Take Money Out as a Dividend

A limited company is a separate legal entity from its shareholders.

Just because there’s £50,000 sitting in the company bank account doesn’t mean you can automatically take a £50,000 dividend.

A company can only pay dividends when it has sufficient distributable reserves.

Cash and profit are not the same thing.

Some of the cash in your bank account may ultimately be needed for Corporation Tax, VAT, PAYE, suppliers and other liabilities.

If you withdraw more than can legitimately be covered by salary, dividends or other payments, you may end up with an overdrawn director’s loan account.

In simple terms, you owe the company money.

What Happens to an Overdrawn Director’s Loan?

An overdrawn director’s loan doesn’t automatically create a Section 455 tax charge.

There’s an important deadline.

Broadly, if the loan is repaid, released or otherwise properly cleared within nine months of the end of the company’s accounting period, the company can generally avoid actually having to pay the Section 455 tax.

The loan might, depending on the circumstances, be cleared by:

• Repaying the money to the company

• Declaring a valid dividend where sufficient distributable reserves exist

• Paying remuneration or a bonus, with the appropriate PAYE and National Insurance consequences

But you cannot simply declare a dividend to clear the loan if there aren’t sufficient distributable reserves available.

What Is Section 455 Tax?

If the loan remains outstanding beyond the relevant deadline, the company may have to pay a tax charge under Section 455 of the Corporation Tax Act 2010.

For loans made on or after 6 April 2026, the Section 455 rate is 35.75%.

So if an owner-director has a £40,000 loan outstanding:

£40,000 × 35.75% = £14,300

That’s £14,300 the company potentially has to pay to HMRC simply because the director’s loan remains outstanding.

Is Section 455 Effectively a Withholding Tax?

I often describe Section 455 to clients as effectively a withholding tax.

Technically, HMRC calls it a Section 455 tax charge.

But unlike ordinary Corporation Tax, the company can potentially get the Section 455 tax back when the loan is subsequently repaid, released or written off.

So the money isn’t necessarily lost permanently.

The problem is how long it can take to get it back.

Why Can Getting the Tax Back Take So Long?

This is something directors don’t always appreciate.

If you repay an overdrawn loan after the original nine-month deadline, the company doesn’t necessarily receive its Section 455 tax back immediately.

Relief is generally deferred until nine months and one day after the end of the accounting period in which the repayment, release or write-off takes place.

That means there can be a substantial delay between clearing the director’s loan and actually recovering the Section 455 tax from HMRC.

In some circumstances, the whole process can stretch over a considerable period.

That’s why Section 455 can create a real cash-flow problem, even though the tax may ultimately be recoverable.

Don’t Repay It and Immediately Borrow It Again

There are also anti-avoidance rules designed to stop directors temporarily repaying a loan simply to avoid Section 455 and then taking the money straight back out.

This is commonly known as “bed and breakfasting” a director’s loan.

So don’t assume you can transfer the money back into the company just before the deadline and then withdraw it again shortly afterwards.

There are specific rules designed to counter this.

There May Be Other Tax Consequences

Section 455 isn’t necessarily the only tax issue with an overdrawn director’s loan.

For example, sufficiently large interest-free or low-interest loans to directors can potentially create a benefit-in-kind and additional reporting and tax consequences.

And if a loan is ultimately written off rather than repaid, that can create further tax consequences for both the company and the individual.

So it’s much better to manage the position during the year rather than discover the problem when the annual accounts are prepared.

The Real Problem Is Often Poor Management Information

In my experience, most directors don’t deliberately set out to create an overdrawn director’s loan.

The problem is often much simpler:

They don’t actually know how much profit their company is making.

They look at the bank account, see plenty of cash and assume they can take it.

But the bank balance doesn’t tell you how much you can legally distribute as dividends.

That’s why owner-managed businesses need up-to-date financial information.

Monthly Management Accounts Can Help

Ideally, you should know roughly how much profit your company is making after allowing for Corporation Tax throughout the year.

Good monthly management accounts can give you that information.

If your management accounts show:

• Profit to date

• Estimated Corporation Tax

• Available reserves

• Director’s loan account position

• Other significant liabilities

you have a much better idea of how much you can safely extract from the company.

You can then make sensible decisions about dividends as you go rather than discovering a problem months after the year end.

The Bottom Line

Don’t use your limited company as your personal cash cow.

Before taking significant amounts of money from the company, understand how much profit you’ve actually made and whether sufficient distributable reserves exist.

If a loan to an owner-shareholder remains outstanding beyond the relevant deadline, the company could face a Section 455 tax charge – currently 35.75% for loans made on or after 6 April 2026.

Although that tax can potentially be recovered when the loan is subsequently cleared, there can be a considerable delay before the company gets its money back.

The best solution is to avoid the problem in the first place.

Know your numbers throughout the year, understand how much profit you’ve made after tax and know how much you can legitimately take out before you take it.

This article is intended as general guidance only. Director’s loans, dividends and Section 455 have detailed tax rules and individual circumstances should be considered before taking action.