Posted: 10 / 04 / 2024
Disputes between shareholders or business owners may arise for a variety of reasons. Common issues we have noted include:
- A minority shareholder raising an unfair prejudice claim for their unfair treatment and exclusion from a company;
- Issues in relation to balances owed to or from a director by the company, through a director’s loan account (or “DLA”);
- A majority shareholder alleged to have unfairly awarded themselves a large salary increase;
- Disputes relating to the terms of departing shareholders; and
- Other disagreements relating to the value of shares in a business.
In this piece we will focus on director’s loan accounts, which can be a common source of dispute between shareholders and business owners.
A director’s loan account is an ongoing balance between the company and a director or business owner, reflecting the transactions between the company and a director, resulting in an amount owed to or from a company. It is often a common feature in the accounts of small businesses and can arise for a number of reasons, for example as a result of loans to or from directors, or the incurring of company expenditure by a director, which they reclaim through the director’s loan.
If the director’s loan account is in credit, the balance will sit within creditors, reflecting that the company owes this balance back to the director. This will arise in relation to the net amount of funds put into the company by the director.
12. RELATED PARTY DISCLOSURES
Included in other creditors are amounts owed to █████, director, of £39,730 (2021: £39,780) and amounts owed to █████, a shareholder, of £20,310 (2021: £20,310). No interest is payable on these balances.
However, if the account is overdrawn, this represents a net amount owed to the company from the director, and is shown in debtors. This can arise if the director has withdrawn too much out of the company in drawings, or has taken a loan from the business:
10. DIRECTORS’ TRANSACTIONS
Included in other debtors is a director’s overdrawn loan due to the company amounting to £63,207 (2022: 52,068). The maximum balance outstanding during the period was £154,082. The loan is unsecured and repayable on demand. No interest was paid on the loan during the period. The loan account was repaid to the company post year end.
If a dividend is able to be paid (this is only if requirements regarding distributable reserves are met), this can either be paid out in cash, or could also be used to reduce an overdrawn balance.
Common issues
Director’s loan accounts can cause problems when an individual departs the business, particularly if the account is overdrawn. The exact amount due to or from the director is often disputed. In addition, s455 taxes can become payable on overdrawn balances that are not repaid to the company within nine months of the year end.
The exact amount owed to or from a director may not be a simple matter to determine. In smaller businesses a director’s loan account can comprise a large volume of transactions, particularly those where the company is in effect an incorporation of the personal trade of the director. The director’s loan account should, for example, include every instance in which a director has made a payment on behalf of the company and is therefore due reimbursement. As such, reconstructing this can be a difficult task.
A common issue is the mismatch of the need to take regular cash out of the business, compared to how a dividend is processed. During the course of the financial year, if a director takes a “drawing” out of the business, this will result in a debit balance accruing on the director’s loan account. A dividend could then be processed to clear this balance. However, the exact amount of dividend that may be paid will only be known after a financial year has concluded, and is dependent on the profits of the business during the year. This can lead to a perhaps unexpected overdrawn director’s loan account position come the year end, if profits were lower than expected.
Additionally, if these overdrawn director’s loan accounts occur when there are other creditors of the business who have not been paid, the directors face the possibility of being accused of a breach of director’s duties, misconduct, or even tax avoidance.
We are often asked to assist on such matters, where the use of a director’s loan account is a matter for dispute between shareholders or other business owners. Recent instructions include a joint expert instruction in relation to the treatment of directors’ loan accounts, and the consideration of other issues, including profit share calculations. The work we are required to undertake often entails a detailed reconstruction of the financial information provided and analysis of dividends, salaries, loans and other transactions.
We have substantial experience working on a wide range of shareholder disputes and can assist with the following:
- Initial advisory prior to issuance of a claim;
- Preparation of analysis to assist in the mediation process;
- Assistance with disclosure;
- Detailed analysis of available information;
- Preparation of CPR 35 compliant expert reports;
- Working with the corresponding expert in the preparation of a joint statement;
- Attendance at hearing and expert testimony; and
- Further expert assistance post-hearing where required.
Contact
If you have any questions please feel free to get in touch.
