What every business owner needs to know about DLAs in liquidation for tax liabilities and other potential personal consequences

A Director’s Loan Account (DLA) is a common tool used to manage personal drawings from their company throughout the year. Typically, any overdrawn balance is cleared later, often through a dividend or bonus payment, before the financial year-end. 

However, the situation becomes significantly more complex and potentially worrying if your company enters liquidation with an outstanding overdrawn DLA.

If a company is considering voluntary or compulsory liquidation then an overdrawn DLA is treated as an asset of the business. 

This means that the liquidator is legally obliged to seek repayment of this outstanding balance for the benefit of the company’s creditors. As a director they would then become personally responsible for repaying the overdrawn amount as it’s generally not written off or discharged through the liquidation process.

The Liquidator’s Approach: Pragmatism over aggression

While the idea of repaying a significant outstanding DLA can be daunting, it doesn’t automatically mean financial hardship or immediate aggressive recovery action through bailiffs or high court enforcement officers. 

Responsible insolvency practitioners (IPs) will emphasise a more pragmatic approach, aiming to work constructively with directors. Their legal duty is to protect creditors’ interests, but they will typically assess your personal financial situation and look to offer flexible repayment options or other sustainable payment plans. The risk of serious consequences is significantly reduced if the loan was taken in good faith.

Key implications and potential liabilities

Beyond the direct obligation to repay, an overdrawn DLA in liquidation carries several other potential implications including:-

  • Tax consequences:-
    • Section 455 Tax Charge: If the loan is not repaid within nine months of the company’s financial year-end, it can trigger a 32.5% temporary tax charge (s455 tax) on the company. The company can claim a repayment of this tax if the loan is later released, repaid or written off, but this claim must be made within four years of the financial year-end in which that event occurs.
    • Benefit-in-Kind (BIK): For interest-free loans from the company exceeding £10,000, a Benefit-in-Kind charge may apply, calculated using HMRC’s official rate.
    • Income Tax if written off: If the DLA is formally written off as a bad debt by the liquidator, the outstanding amount may be taxed as income for the director at the higher rate. 
  • The Quillan v HMRC Case – A Crucial Insight: This recent First Tier Tribunal (FTT) case offered important clarity regarding income tax on DLAs in liquidation. In Quillan v HMRC, the director owed approximately £382,000 to his company upon its dissolution, but the liquidator deliberately chose not to formally write off the loan to retain the right to pursue repayment if the director later acquired the means. HMRC argued the loan was written off for tax purposes because the liquidator wasn’t actively pursuing it. However the Tribunal found in favour of Mr Quillan, concluding that since no formal release or write-off had occurred and the liquidator reserved the right to pursue the debt, he was not subject to income tax on the outstanding loan amount. This highlights that a liquidator’s deliberate choice not to formally write off a debt can prevent an income tax charge for the loan holder.
  • Other personal liabilities: While the Quillan case offers some relief regarding DLA tax, another case, Strange v HMRC, serves as a reminder of other potential personal liabilities. In this case, a director was found personally liable for unpaid company National Insurance Contributions (NICs) that had been declared but not paid. This underscores the importance of being mindful of all company financial obligations. 
  • Director Disqualification Risk: Although not directly caused by an overdrawn DLA alone, directors of struggling companies, especially those unable to repay Covid-era loans like Bounce Back Loans, could face disqualification. The Insolvency Service has a stated objective to pursue director disqualifications linked to these loans. Disqualification can occur for various reasons, including failure to maintain adequate accounting records or not paying tax/VAT. Chris Horner, Insolvency Director with businessrescueexpert.co.uk, notes a significant increase in disqualifications related to Covid-era loan abuse with 76.5% of cases in 2024/25 related to these loans. The average disqualification length is rising, currently at 9.3 years. Crucially, directors should absolutely avoid trying to dissolve their company or selling it to an unregulated company to make the problem “disappear”, as this will lead to severe trouble. 

How to mitigate risk and find solutions

If your company is facing financial difficulties and you have an overdrawn DLA there are some options that can be considered:

  • Negotiated settlement: An IP can assess your personal financial position and affordability to repay. They may negotiate a settlement for less than the full DLA amount, either as a lump sum or a realistic payment plan, if it represents the best return for creditors under the circumstances.
  • Exploring “uncollectability”: In rare circumstances, if recovery is genuinely not possible due to a complete lack of assets or means of repayment, an IP may consider the loan unrecoverable. However, this decision is not taken lightly and is usually a last resort.
  • Personal insolvency options: If repayment of the DLA is truly unfeasible, personal insolvency options such as an Individual Voluntary Arrangement (IVA) or bankruptcy could be explored to manage liabilities including the DLA. 
  • Reducing the DLA balance: There are several legitimate ways to reduce overdrawn DLAs including:
    • Personally funded company equipment: Any equipment bought for use by the company with the director’s own money.
    • Company payments made personally: Any payments you made on the company’s behalf.
    • Outstanding business expenses: Mileage and other business expenses not yet reimbursed to you.
    • Accrued dividends: Dividends that have been declared from sufficient profits but have not yet been paid out to you.  

Seek professional advice early: Early advice and planning are paramount

It’s easier to plan a strategy when you fully understand all the options available to you. This is why we offer a free initial consultation for directors to discuss their circumstances and understand their goals. Our advisors will be able to work with them once they get a clearer idea of the company’s financial situation and let you know what solutions are available depending on whether restructuring and revival are possible.

The current economic climate remains challenging with high numbers of company insolvencies. Many directors are already working flat out to protect their businesses and manage legacy debts. It’s crucial not to sleepwalk into a disqualification or other severe consequences by neglecting an overdrawn DLA. 

Understanding these potential issues and seeking impartial, professional advice quickly can give you more options than you might realise and help you navigate this complex area effectively and efficiently.