Take a cheap mortgage from your company?

Perhaps surprisingly, HMRC has announced that the official rate of interest (ORI) for employee loans will remain at only 2.25% for the 2024/2025 tax year.

The issue

As well as falling well below the 5.25% base interest rates, this is also significantly below HMRC late tax payment rates which stand at an eye-watering 7.75%. It is quite unusual for the ORI to be this much below the bank base rate.

For example, in 2007/2008, when base rates were around the mid 5% mark, the ORI was over 6%. This disparity could present shareholders with some interesting planning opportunities, such as using company funds to refinance personal mortgages.

The key rules on loans

Broadly, interest-free loans will give rise to a tax charge based on the ORI if they are for more than £10,000 at any point in the tax year. For example, if a shareholder were to borrow £100,000 from his company for 2024/2025 then he would have to pay tax on a benefit of £2,250, which would mean £1,012 of tax, assuming a 45% rate.

Section 455 should not be forgotten about. This applies a 33.75% corporation tax charge on the company for any loans which remain outstanding nine months after the company’s year end (although the charge is repayable by HMRC nine months after the year end of the accounting period in which the loan is repaid or written off).

Example

Fred’s £400,000 mortgage has come up for renewal. His interest only deal of 1.8% looks set to jump to 4.7% if he takes the best available offer available. Although there is £400,000 of cash in his company (which has a 31 March year end), Fred does not want to suffer the tax that a dividend would trigger (and then he wouldn’t have the £400,000 to pay off the mortgage!).

Fred decides to borrow £400,000 from the company. At 45%, this will cost him £4,050 (2.25% x £400,000 x 45%) of tax on the beneficial loan. The company would also have employer’s national insurance of £621 to pay (£466 after corporation tax deduction).

Therefore, there will be about a £4,500 annual cost of getting £400,000 into Fred’s hands. This compares to £18,800 under the 4.7% deal.

Although the company would face the spectre of a £135,000 s455 charge if the loan is not paid by 31 December 2025, Fred is hoping that mortgage rates will have calmed down by then and so he can repay the director’s loan by taking out a mortgage. Even if things do not get better, he will still have enjoyed a period of relatively cheap finance.

Hamilton Rose's view

It makes sense more now than perhaps at any other time for shareholders to finance their short to medium term requirements through director’s loans. The above example perhaps overstates the case because it does not factor in the return that the company forgoes by lending funds to Fred.

However, even if we assume a healthy 4% bank return, this would only equate to about £7,000 once extracted by Fred, which still leaves a significant saving on the table. This low ORI is also helpful for shareholders who are gearing up for a sale because they can take ‘cheap loans’ rather than dividends, in the hope of paying low capital gains tax rather than income tax on the value of the loans when the company is sold.

This is possible as a buyer will pay for the loan receivables as part of the transaction and then the loans will be repaid as a deduction from the proceeds.