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Waivers of loans to close company participators taxed as bonuses

Waivers of loans to close company participators

First Tier Tribunal (FTT) holds that waiving loans to close companies’ directors who were also participators was taxed as earnings


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Case summary

Esprit Logistics Management Ltd and ors v HMRC [2018] UKFTT 287 (TC) concerned appeals against PAYE assessments issued to a number of unconnected companies.

In each case, one or more directors had an overdrawn balance on their company loan account which represented a loan to a participator in a ‘close’ company.

The companies wished to put the relevant directors in sufficient funds to allow repayment of the loans in a tax efficient manner.

With this aim, they each implemented a ‘loan waiver scheme’ promoted by the same adviser.

Under those arrangements, the outstanding loans were waived in place of bonuses that would otherwise have been paid.

The waiver of a loan to an employee or director is, in principle, subject to tax as employment income.
However, where the waiver also represents the ‘release’ of a loan to a participator in a close company, a specific priority rule directs that it be taxed under the close company rules, rather than as employment income.
The effect of this is that income tax is charged at the dividend rates, rather than at the higher rates that apply to employment income. No such priority rule applies for National Insurance contributions (NIC) purposes.

On this basis:

  • The directors each self-assessed the waiver as subject to income tax at the lower dividend rates; and
  • The companies each accounted for both employees’ and employer’s NIC.

HMRC argued that, viewing the facts realistically, the waivers were merely the mechanism for delivering performance related bonuses that would otherwise have been paid. This was done by offsetting those amounts against the overdrawn loan accounts.

The taxpayers accepted that the waivers represented earnings from the employment (and the companies accounted for NIC on this basis).

However, they argued that the ‘release’ of a loan to a participator need not be gratuitous (i.e. value could be received in return). The waivers were therefore also subject to income tax under the close company rules and the priority rule excluded taxation as employment income.


The Tribunal’s view

The FTT declined to follow HMRC’s offset argument on the basis that the directors did not have a contractual right to the relevant bonuses.

However, the FTT found that the waivers nevertheless did not amount to ‘release’ for the purposes of the close company legislation. This was because the transactions in effect amounted to repayment or satisfaction of the loans, as the bonuses that the companies were minded to award need not then be paid.

No income tax charges therefore arose under the close company rules which could displace taxation of the waivers as earnings for income tax purposes.


Given that, on the facts of this case, the companies each intended to deliver performance bonuses to the relevant directors, and waived the relevant loans in order to deliver that value, the FTT’s finding that the transactions in effect amounted to repayment of the loans, rather than their ‘release’, is perhaps unsurprising.

However, had the circumstances been such that there was no intention to deliver employment reward (e.g. as a matter of fact the loans were being released because the relevant individuals were shareholders, rather than because they were directors), and an employment income tax charge would have arisen only under the fall back charging provisions of the benefits code, it appears possible that the tribunal would have reached a different decision.

However, this case further highlights the current attitude of the Tribunals and Courts to cases of perceived tax avoidance.

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