Your organisation's records for its most recent financial year have been drafted. They reflect that you, along with another director shareholder, received more dividends than allowed by organization law. This has tax outcomes. What's the most tax-effective method for overseeing them?
The recent few years have been challenging for most organisations which have brought about critical lows in profits. The effect of this is turning out to be more evident as organisations set up their yearly accounts. The declining profits are problematic enough; however the directors whose salaries depend upon dividends deal with yet another issue. Trap. In the event that dividends given out to directors surpass an organisation's profits (current and brought forward), they are recognised as unlawful dividends. That is to say, they are not allowed by organizational law.
A director who obtains an unlawful dividend is liable to return it or the share of it that the company’s profits don’t cover. In simple words, it’s a de facto loan and not a salary. Tip. This law does not extend to dividends transferred to shareholders (usually minority shareholders) who aren’t aware of the approvals that go behind paying dividends and who can’t be expected to be aware of the company’s profits and losses. Despite this, their dividends are subject to taxes. Keep in mind that this let-out doesn't extend to a company’s directors, who are well aware of an organisation's profits situation.
In recent years HMRC reasoned that instead of unlawful dividends being termed as loans, they should be thought of as earnings. HMRC considered this to be a positive outcome as it meant a greater tax haul. Currently, HMRC defines unlawful dividends as loans. However, this didn’t keep some old-school tax inspectors from still treating unlawful dividends as earnings.
If a taxpayer is met with that logic, then he should point the inspector to its original guidelines (see HMRC’s Company tax manual at CTM15205).Financial consequence. After the total amount of unlawfully paid dividends is figured out, it must be recorded as a loan against the respective directors in the organisation’s records. Understandably, they should return the amount; however, there isn’t a time limit for it.Company’s tax.
If any of the directors don’t pay back the amount under nine months after the end of the organization's accounting period in which dividends were transferred, the organization is “close” and the director has a “controlling interest” in it, it is required to pay tax worth of 33.75% of the non reimbursed loan.Individual’s tax. If the shareholder owes the company more than £10,000 (taking into account other amounts they already owe), a tax charge based on the benefit in kind rules applies. As the taxable amount is only 2% of the debt, this charge is usually not significant.
If the director is liable to pay back the organisation more than £10,000 (including other payables they already owe), a tax charge based on the benefit in kind rules applies. Since the taxable percentage is only 2% of the debt, this fee is typically not great.Tip. A more tax-efficient way to deal with this situation is to waive the loan.Dividends transferred to the company's directors in excess are recognised as loans. This can lead to additional taxes for the organisation and the director. The shareholder can get rid of them by waiving the loan.
