A director’s loan account (DLA) is money owed by a company to a director. In recent years many health and care businesses have incorporated creating large DLA balances as a result.
The sale of the business to a company was typically subject to a 10% tax rate and the consideration would be left outstanding such that a DLA was created. As profits are realised by the company the DLA is repaid with no further tax charged on the individual, making it a very tax efficient way of extracting cash from a business.
It should be noted that the tax advantages of undertaking similar transactions has reduced in recent times following changes to the law. In this article, however, we are focussing on DLA’s which are already in existence.
The one downside of a DLA is that it will form part of an individual’s estate for inheritance tax purposes, which could result in a large tax liability on death. Prior to incorporation of the business the sole trader or partner would have held an interest in a business which, provided it was trading, would likely have been exempt from inheritance tax.
For example, if the individual has an outstanding DLA of, say, £250,000 on death, tax of up to 40% (i.e. £100,000) may be due, compared to nil if the business had been continued as a sole trade or partnership.
This issue is likely to be of main concern where a large DLA balance exists which is not expected to be repaid in the short to medium term and if the individual is of poor health or elderly.
We have experience of advising and implementing a solution to this issue, such that the flexibilities of a DLA are retained (i.e. that the monies can still be repaid on demand) but so that there is no longer an exposure to inheritance tax. If you would like more information please call our healthcare team on 01242 237661 or email Andrew.Brookes@hazlewoods.co.uk