Company funds
Borrowing from a bank or finance company is a common source of funds for companies, but sometimes it’s just not possible or the cost is too high (interest). An alternative option is for shareholders to deposit personal funds into the company’s bank account. This is usually how a shareholder current account starts. It’s like a flexible loan account available to the company with the shareholder acting as the bank.
When the company borrows from a bank, it records the money received as an overdraft or loan, which is a liability in the balance sheet. When the company borrows money from a shareholder, it’s also a liability – we refer to this as a Shareholder Current Account.
Throughout the year, you can deposit more money into the company which increases the amount the company owes you. Whenever you withdraw or transfer money from the company to yourself, it’s like the company is paying you back a bit of the “loan” and the amount it owes you decreases. The SCA is the place where these cash transactions are recorded, and any non-cash transactions – for example, ‘selling’ your personal vehicle to the company.
Can I take out more than I put in?
Technically, yes, but it’s not recommended. This would result in you owing money to the company. The company has a legal right to recover the money from you- just like a normal trade debtor.
When you take out more than you’ve contributed, the shareholder current account becomes negative. It’s referred to as an overdrawn SCA. Inland Revenue requires the company to charge you interest on that amount at a set rate each year. This interest becomes taxable income for the company.
Consequences – directors
For the company directors out there – if the company doesn’t have enough to pay its business bills as a result of the shareholder taking out excessive funds, directors could be found liable for allowing the company to trade recklessly or trading while insolvent.
Consequences – shareholders
For shareholders – there is a risk of losing the limited liability protection of a company. If problems arise, you may be liable up to the amount of the overdrawn current account – you’d need to repay that amount to the company.
Do I actually need to pay interest to the company?
Not cash – no. Instead, we work out the interest and make an adjustment at the end of the year. The interest is taxable income for the company.
Am I paying interest to the IRD on the overdrawn current account?
No – this interest is paid to the company. Inland Revenue only charges interest when tax isn’t paid in full, or on time.
Next steps…
Now that you have a better understanding of a current account, you probably want to get into the nitty-gritty of how it actually works. We have you covered in a separate blog!
