Buying a house is among the biggest purchases most people will make in their lifetime. Unfortunately, most home buyers don’t have abundant cash amounts lying around which they can use to make significant down payments so when it comes to it, most people find it a challenge trying to raise money for property purchases.
Generally, if you can make a larger deposit, your monthly payments for the mortgage will be lower. For this reason, some people consider borrowing from their own businesses to buy houses.
A major benefit of being a business owner is the ability to transfer and borrow money using separate tax entities for different economic reasons. Some people think that borrowing money from your own business is a bad idea. However, this can be a good way to raise the money you need to buy a house. In fact, this approach can be cheaper than getting a bank loan or a mortgage.
Nevertheless, if there are third parties and minority shareholders involved, issues like fiduciary duty should be kept in mind when borrowing money to buy a house from your company.
Generally, it’s common for business owners to lend to and borrow from their businesses. With the new landlords’ tax charges in place, many business owners are buying investment properties via their limited companies. That’s because this approach is more efficient when it comes to paying taxes.
Borrowing money from your business to buy a house comes with two major tax implications. One, your assessment will be based on a kind benefit equal to the amount of the loan multiplied by the interest rate. Therefore, you will make a personal tax payment on the kind benefit and your business will pay about 13.8% Class 1A National Insurance on this benefit as well.
Second, if you default or fail to pay your business back within nine months and one day of your loan being made, your company will have to pay a Section 455 Tax charge amounting to 32.5% of the remaining amount on the loan. This tax will be repaid to your company when and as you repay the loan.
Perhaps the safest option when it comes to borrowing a loan from your business to raise money for property purchasing, is having a written agreement which complies with the Income Tax Act. The requirements of this loan agreement can be complex. However, the agreement basically requires you to repay the loan in instalments of 7 years and above. If you secure the loan on a real property, you can even take 25 years to repay the loaned amount.
Therefore, enter a formal agreement with your business when borrowing money to buy a house. This way, you will avoid a punitive tax charge as long as you make the payment as stipulated in the loan agreement.
Facts to Bear in Mind when Borrowing Money From Your Business to Buy a House
Borrowing money from your business to buy a property gives you more flexibility than getting a bank loan or a mortgage. That’s because you can easily repay the loan at your pace and on your own terms, and nobody will require proof of income or take you through affordability tests. Nevertheless, this approach works best for small business owners. A large business with several shareholders may require more time to convince each of them to agree with the others to allow you to borrow from the business.
Here are some other facts to bear in mind when borrowing money from your business to buy a property:
- Borrowing from your business to buy a house can be a good mortgage alternative.
- The loan borrowed from the business is a benefit in kind therefore subject to personal taxes.
- The business will be required to pay 13.8% NIC on the benefit value each year.
- The business will be required to pay 32.5% of Section 455 Tax on your loan.
- Your business will recover the Section 455 Tax when and as you repay the loan.
How to Withdraw the Loan from Your Business Account
It’s conventional wisdom that you should not just withdraw money from your business account for any expense. If you do this, the amount can be treated as a dividend. Essentially, the major reason to have a personal bank account and a separate business account is to ensure that your finances are not mixed up with your business finances. That’s because it’s not easy to know the exact amount you’re entitled to withdraw from the business every day. If you are not careful, you can end up owing your business a huge amount of money. This can lead to serious financial and tax problems.
To ensure that the amount loaned to you by your business is not treated as a dividend or distribution, be careful when withdrawing it. You should follow formalities and rules when making the withdrawal to ensure that the transaction is treated as a loan
Here’s how to do it:
- Make sure that the withdrawal is documented like any other loan with a promissory note which is legally enforceable.
- Make sure that there are valid and documented minutes with the notes for authorising your loan.
- Ensure that loan interest is charged as per the loan agreement.
- If appropriate, make collateral part of your loan.
- Show the transaction on corporation records and books as a loan and list it on the corporation or shareholders’ financial statements.
- Ensure that repayments are made as per the terms stipulated in the promissory note and in a timely manner.
As a business owner, make sure that you do not violate corporate formalities or neglect your responsibilities to third parties and minority shareholders. Such formalities may include attending board members’ meetings and abstaining when it comes to voting for the loan approval. Adhering to these formalities and rules enables you to avoid possible tax dangers while ensuring proper communication of the facts. What’s more, it protects you and the business from possible claims that can arise from minority shareholders, the government, and other officers.
The Bottom Line
When you decide to borrow from your business in order to raise money for property purchases, take care to ensure that you do it the right way. A loan from your business can be a great economic tool. However, it can expose you to several tax dangers and financial problems if it is not done the right way.