DIRECTORS’ REMUMERATION - 25.01.2022

Limited company sole director risks

Directors often have misconceptions regarding their remuneration. This can sometimes have consequences for you as the advisor. What does a recent High Court decision underline the importance of impressing on clients?

Insolvency case

The case of Bass and Ors v Buchanan [2021] EWHC 2740 (Ch) (see Follow up ) involved an overdrawn director’s loan account in a company providing client representation for actors. Profitability fell significantly and HMRC demanded all outstanding unpaid tax. The company was put into liquidation, and its sole director held liable to repay the outstanding balance on the director’s loan account - over £280,000, plus interest.

Remuneration

The director’s remuneration pattern was typical, the director taking low salary and high dividends. She drew money monthly from the company via standing order. After some years, there were not sufficient distributable profits to vote dividends to cover monthly drawings and the director’s loan account remained overdrawn.

Where a director’s loan account is outstanding more than nine months after the company year end, the question of corporation tax under s.455 Corporation Tax Act 2010 arises.

It’s a bright line from a tax angle, but in practice boundaries can get muddy, and this happened here. The advisors asked their client to sign a declaration that the overdrawn loan account would be repaid instead of declaring a s.455 charge to HMRC. The loan was never repaid.

Risk to advisors

Client misapprehensions are high risk for advisors, the more so given difficult trading conditions which could lead to insolvency. Apart from issues of director personal liability, careless procedures with overdrawn director loan accounts and the s.455 charge can be money laundering offences: a tax advantage being obtained by the director/company through breaking the law.

Pro advice. Take care that advice reflects reality when it is given. Use the guidance in the Professional Conduct in Relation to Tax (see Follow up ) to keep your practice in the clear, especially as regards complaints and disciplinary action.

Pro advice. Maintain robust audit trails for all advice given.

Client communications

This case showed how great client misunderstandings can be about the legal position when trading via a limited company. Reinforce the fact that monies drawn from the company are only on account until covered as dividends or salary. Where payments are not made as salary in real time, or if there aren’t sufficient profits from which to pay dividends, by default, monies stand to be treated as a loan.

Back to basics client education is never a bad idea. Remind clients that the company exists as a legal entity separate from its director, and that extracting cash from a company is completely different from taking drawings from a sole trader or partnership business. It’s not a simple ratio of hours worked to monies out; remuneration has to be voted and documented correctly.

Pro advice. Directors can set remuneration by ordinary resolution. Remind clients to use the appropriate mechanisms, like this, to extract funds from the company.

Remind small company directors that the company is a separate legal entity, and that money has to be extracted properly to avoid problems. This case highlights that assuming there will be enough profits to clear an overdrawn director’s loan account is a dangerous tactic and can lead to tax charges, and potentially personal liability for directors.