If you’re a director or shareholder of a close company, you need to understand Section 455 tax charges.
These charges are HMRC’s way of regulating loans and benefits that companies provide to their shareholders. They can have substantial financial implications for both the company and its shareholders.
Read on as we break down Section 455, explaining how it works, when it applies, and what it means for your company’s finances.
What is a Close Company?
A close company is controlled by five or fewer participants or by any number of participants who are also directors.
In simpler terms, a private limited company is typically a private company with a small number of shareholders who have significant control over its affairs.
Most small and medium-sized private companies fall under this definition.
Understanding Section 455
Section 455 applies when a close company lends money or provides benefits to its shareholders or their associates.
It’s designed to prevent the use of company loans to extract value without paying income tax.
The charge is 33.75% of the loan amount, payable by the company. However, it’s a temporary tax that is refundable when the loan is repaid.
For example, if a company lends £10,000 to a shareholder, it would need to pay £3,375 in Section 455 tax.
Section 455 comes into effect in several scenarios:
- Direct loans from the company to a shareholder
- Overdrawn director’s loan accounts
- Provision of assets for personal use by shareholders
- Writing off loans to shareholders
These rules extend beyond shareholders to include their associates, such as family members or other connected parties.
Financial Impact and Management
At 33.75%, Section 455 charges can easily affect a company’s finances – sometimes substantially. This tax needs to be paid upfront, impacting cash flow and financial planning.
For instance, a £50,000 loan to a shareholder would result in a £16,875 Section 455 tax payment.
To mitigate the impact of Section 455 charges, companies can:
- Ensure loans are repaid within 9 months of the company’s year-end
- Maintain detailed records of all transactions
- Consider dividend planning as an alternative to loans
- Adjust director salaries to cover personal expenses instead of using company funds
Note: If a loan isn’t repaid within 9 months of the company’s year-end, the Section 455 charge will apply, even if it’s later refunded.
Exceptions and Misconceptions For Section 455
Section 455 doesn’t apply in certain situations, such as loans made in the ordinary course of a company’s business (e.g., if the company is a bank) or loans of £15,000 or less to full-time employees who don’t have a material interest in the company.
A common misconception is that small amounts won’t attract HMRC’s attention.
In reality, HMRC scrutinises company accounts carefully, and even small overdrawn loan accounts can trigger a Section 455 charge.
Repayment and ‘Bed and Breakfasting’ Rules
When a loan is repaid, the company can reclaim the Section 455 tax. However, this process isn’t automatic.
Claims for refunds can only be made nine months and one day after the year-end in which the loan reduction occurred.
To prevent abuse of the repayment rules, HMRC introduced ‘bed and breakfasting’ measures.
If repayments of £5,000 or more are made and new loans of £5,000 or more are taken out within 30 days, the repayment is matched against the new loan, not the original one.
For loans of £15,000 or more, a wider ‘arrangements’ rule can apply, potentially extending beyond 30 days.
Loan Write-offs and Cheap Loans
Section 455 doesn’t just cover outstanding loans. It also addresses situations where loans are written off or provided at advantageous rates. Here’s how these scenarios are handled:
Loan Write-offs: When a company cancels a loan to a participator, HMRC treats this as a dividend payment. The participator must report the written-off amount as dividend income on their tax return. For instance, if a company writes off a £5,000 loan, the participator owes income tax on a £5,000 dividend.
Interest-free or Low-interest Loans: HMRC may view loans provided at no interest or below-market rates as a taxable benefit. This applies when the participator is also an employee or director. However, no taxable benefit arises if the total of such loans doesn’t exceed £10,000 throughout the tax year.
These rules ensure that any value transfer from a company to its participators, whether through loan cancellation or favourable terms, is appropriately taxed.
They close loopholes that could allow hidden benefits to flow from companies to their shareholders.
Wrapping Up
Section 455 tax charges are a tricky but essential aspect of company taxation.
They ensure that HMRC collects tax when shareholders benefit from company funds, even if only temporarily. Don’t let it catch you out.
At Double Point, our team can help you understand how Section 455 applies to your specific situation and develop strategies to manage its impact.
We’ll ensure you’re compliant while optimising your tax position. Contact us to discuss your company’s needs and how we can assist in managing your tax affairs effectively.
