Interest-Free Loans and Dividends: What You Need to Know (TDS 24/14)

In August 2024, Inland Revenue shared some important information (TDS 24/14) about how interest-free loans might be treated as dividends for tax purposes. This is especially relevant for companies and shareholders, as it affects how taxes are applied to these loans.

What Are Interest-Free Loans?

An interest-free loan is when a company lends money to a shareholder or someone connected to them without charging any interest. While this might seem like a simple loan, it can lead to tax issues. Inland Revenue may see this loan as a way for the company to give value to the shareholder without declaring it as a regular dividend, which is normally taxed.

When Can Interest-Free Loans Be Seen as Dividends?

Interest-free loans can sometimes be treated like dividends (which are taxable) under specific circumstances. Inland Revenue looks at the following:

• Company’s Structure and Profits:

If a company gives a loan instead of paying out profits through regular dividends, it might be seen as a way of indirectly giving money to the shareholder. This reduces the company’s available money but benefits the shareholder.

• Benefits to Shareholders:

If the loan provides a clear financial benefit to the shareholder, it might be considered a dividend. Inland Revenue checks to see if the loan is really helping the shareholder more than the company.

• Tax on Dividends

If a loan is treated as a dividend, the company has to pay withholding tax on it. This tax ensures that the company is paying the right amount to Inland Revenue for giving value to shareholders.

Example of a Taxable Loan

Let’s say a company gives a shareholder an interest-free loan with no set plan for repayment. If the loan is just helping the shareholder rather than serving a clear business purpose, Inland Revenue may treat it as a dividend. In that case, the company would need to pay tax on the loan, just like it would with any other dividend payment.

Conclusion

Interest-free loans can sometimes be taxed as dividends if Inland Revenue sees them as a way to give company profits to shareholders. Companies should be careful when providing such loans to avoid unexpected tax bills. TDS 24/14 helps explain how this works, so businesses can stay within the rules and avoid problems with their finances.