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HMRC internal manual

Savings and Investment Manual

Dividends and other company distributions: loans and advances by close companies to participators: amounts written off

Loans by close company are taxed as distributions when released

Section 455 CTA 2010

CTM61500 onwards explains the treatment of a loan or advance by a close company to a participator (or an associate of a participator) in the company - broadly this means a shareholder or a relative or a partner of a shareholder.

A loan or advance is assessable on the company under CTA10/S455 (CTM61505). Where this is wholly or partly released or written off, the company will get relief under CTA10/S458. Chapter 6 of Part 4 of ITTOIA05 then applies to the participator, with effect from 2005-06 onwards.

The legislation in CTA10/S455 also applies where a loan is made and written off by a company which is controlled by a close company, (CTA10/S460(1)(2)). Note also that ‘loan’ in CTA10/S460(7) has an extended meaning. So, if a person incurs a debt to a close company or a debt due from a person to a third party is assigned to a close company, the close company is treated as having made a loan.

Sections 415 to 421 ITTOIA 2005

Income tax is chargeable on the loan or advance released or written off (ITTOIA05/S415), on the person to whom the loan was made (ITTOIA05/S417).

Where the loan or advance released or written off was originally made to an individual who was also a director or higher paid employee, any charge under ITTOIA05 takes precedence over the charge under ITEPA03/S188 - see EIM21746. (SAIM20000)

The legislation bites where the debt has been passed to a third party. This is because it is not possible in law for a debtor to assign a debt. Any transfer of debt must be made by way of novation, which involves the existing debtor being released from the debt and the new debtor taking on a new debt. In such a case, therefore, a charge to tax under ITTOIA05/S417 arises on the release of the existing debtor (Collins v Addies and Greenfield v Bains (1992) 65TC190).

The income charged is the ‘gross amount’ (ITTOIA05/S416), that is, grossed up by reference to the dividend ordinary rate (see SAIM1070) for the tax year in which the debt is released or written off.

Tax is not charged under Chapter 6 of Part 4 of ITTOIA05 where the person to whom the loan is made is a settlor of a trust who is taxable under the settlements legislation in Chapter 5 of Part 5 or ITTOIA05 (ITTOIA05/S418). Nor is tax charged where the borrower dies and the debt is due his or her personal representatives (ITTOIA05/S419 - subject to certain rules on the taxation of beneficiaries).

This notional tax is not repayable (ITTOIA05/S421 (1)), but is allowable as a credit against any liability to higher rate tax. If exceptionally, personal reliefs can be claimed against the income, the credit is restricted to the amount relating to the income actually charged to higher rate tax. Loans written off are treated as dividend income (ITA07/S19) and the amount that would otherwise be chargeable at higher rate is therefore the dividend upper rate (SAIM1070).

Nor is the notional tax available to cover liability for tax which must be deducted at source from interest and annual payments made under Part 15 of ITA07 (see SAIM9040).