There are two interest questions on a director's loan and they point in opposite directions. When the director owes the company, interest is what removes a benefit in kind from the director's tax return. When the company owes the director, interest is optional income for the director and a deduction for the company. Neither is compulsory, and both are decisions worth making deliberately.
When the director owes the company
A loan exceeding £10,000 at any point in the tax year is a taxable benefit for the director unless the company charges interest at least equal to HMRC's official rate of interest. Charge the official rate or more and the benefit disappears entirely. Charge less, or nothing, and the difference is a benefit reported on a P11D, on which the director pays income tax and the company pays Class 1A national insurance. The official rate is set by HMRC and changes, so it has to be checked for the tax year in question rather than remembered.
The cost of charging interest, which is not zero
Charging interest is not free of consequences for the company. Interest received is income in the company's accounts and taxable, and where the company pays interest to the director the company must account for income tax on it quarterly on form CT61. Many small companies conclude that a P11D on a modest benefit is simpler than a CT61 cycle, and that is a legitimate conclusion, but it should be reached rather than defaulted into.
When the company owes the director
There is no requirement to pay interest on a director's credit balance and no benefit in kind to worry about. If the company does pay interest, it is deductible for the company against its corporation tax and taxable on the director as savings income, with basic rate income tax deducted at source and reported quarterly on CT61. For a director funding their company through a period of growth, this can be an efficient way to take value out, and it is one of the few areas where the loan account works in the owner's favour.
Questions people ask about directors loan interest rate
Do I have to charge interest on a director's loan?
No, but if the loan exceeds £10,000 at any point in the tax year and no interest is charged at HMRC's official rate, the difference is a benefit in kind on the director reported on a P11D.
What rate removes the benefit in kind?
HMRC's official rate of interest for the tax year, or more. It is set by HMRC and changes, so it must be checked against the year in question.
Can a company pay interest to a director on a credit balance?
Yes. It is deductible for the company and taxable on the director as savings income, with income tax accounted for quarterly on form CT61.