What Happens To An Overdrawn Directors Loan Account In Insolvency?

frustrated company director looking at laptop

It is not uncommon for directors of limited companies to take money out of the business in some form other than a dividend or salary. Any money that is taken out in this way is considered a direct loan from the company and will need to be repaid like any other debts. A Directors Loan Account (DLA) is a record of any transactions that are owed by the director to the company, or that are owed by the company to the director. So, an ‘overdrawn’ directors loan account is simply any money that is officially owed to the company that has not yet been repaid. These are typically used to cover one-off expenses or short-term cash flow problems in the directors’ personal finances. 

DLA’s might provide a short term fix for financial difficulty, however they require a large amount of admin and can be tax-heavy. Additionally, if the company enters insolvency, an overdrawn directors’ loan account can cause serious issues. 

Overdrawn Directors Loan Account & Insolvency

When a company becomes insolvent, priority is placed on repaying creditors. This means that the overdrawn directors loan account will be treated as outstanding debt and, as a result, can be pursued to help repay creditors. 

In liquidation, it is the duty of the appointed liquidator to organise the distribution of funds and repayments to creditors. This means that they may pursue an overdrawn directors loan account, particularly if the sale of company assets does not cover the cost of liquidation or provide a substantial return for creditors. 

What are the consequences of this? 

The main issue with having an overdrawn directors loan account in liquidation, is that it can have an impact on your personal finances. If the director does not have the funds to repay the loan then their personal assets could be at risk. In the most severe cases, this can result in directors being forced into personal bankruptcy. 

In addition to this, their conduct will be thoroughly investigated by the insolvency practitioner. If there is evidence to suggest that the DLA has been misused or there is not accurate bookkeeping to reflect the transactions made, then the director could be accused of misconduct. In insolvency procedures, the overdrawn directors loan account will be investigated alongside the rest of the directors affairs to check for any signs of wrongful trading or misfeasance. 

If the company is forced into compulsory liquidation by a creditor, such as HMRC, the consequences can be more severe. That’s why it’s best for companies to consult the advice of a licensed insolvency practitioner at the first signs of insolvency. This will give them the opportunity to voluntarily liquidate their company, providing better results for all parties involved in the business.

Can An Overdrawn Directors Loan Account Be Written Off? 

There are some instances in which an overdrawn directors loan account can be written off. For example, in a ‘close company,’ which is a limited company with fewer than five shareholders, a DLA can be written off if the director is also a shareholder. In this situation, the directors loan will instead be treated as a distribution of funds. However, in the event of liquidation, the overdrawn directors loan account may still be brought into question and investigated, even if the debt has been previously written off.

In summary, an overdrawn directors loan account is best avoided due to the complications it can cause, particularly if the company becomes insolvent. If you do have an overdrawn directors loan account and are concerned that your company is facing insolvency, you should seek professional advice as soon as possible. Don’t hesitate to get in touch with the team at My Liquidation for confidential advice that’s tailored to your business’ needs. The sooner you act, the more options you’ll have for your business and for protecting your personal finances as a director.

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