During the pandemic, many directors struggled to generate a stable income from the salary and dividends paid by their company. Consequentially, many drew funds from the company to supplement cash flow, using a director debit loan account.
The ATO and director loan accounts
The Australian Taxation Office has clearly stated its intention to maximise debt recovery. When a company becomes financially distressed, and subsequently liquidates, director debit loans are outstanding debts (assets) due to the company, and therefore recoverable by a liquidator on behalf of creditors.
Director loans in an insolvency scenario
An appointed liquidator will scrutinise the outstanding sum in a director’s debit loan account. If money is owed to the company, the liquidator may then commence legal proceedings against the director to recover the amount owed.
The importance of commerciality
The overarching function of a liquidator is to maximise the return to creditors. For directors of financially distressed companies, it is often not in the interests of creditors to commence recovery proceedings for a director loan balance. Court proceedings are expensive and time consuming, often vastly exceeding the loan account balance. There is also the risk of a legal defence.
The personal assets of the director (and cost of realising) are a key consideration.
Negotiating a compromise
If pursuit of the debt is uncommercial, a liquidator may negotiate a reduced payment that is more manageable for the director, ensuring creditors still see a return. When a director debit loan is less than $100,000, a liquidator can settle the debt without approval from the court or creditors.
The takeaway
Whilst director loans are often recoverable by a liquidator, the key consideration is commerciality. If a director does not have any personal assets, negotiating a compromise may be the best course of action.
