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When you urgently need funds and can’t get a bank loan, it’s natural to look to your own company for support. You might think about taking a dividend, but that isn’t possible if the business isn’t turning a profit. You might then consider a director’s loan, which is money taken from your company’s accounts that isn’t treated as salary, dividends, or expenses.
A director’s loan can mean borrowing from the company or lending money to it. Either way comes with rules and risks. Division 7A is one of the biggest traps, and you need to understand how it applies before you move any funds.
In this article, you’ll learn what a director’s loan is, how it works, the legal and tax issues to watch out for, and how to stay compliant.
A director’s loan is any money that moves between you and your company that is not salary, dividends, or reimbursed expenses. It sits outside normal payments and must be tracked carefully.
There are two types of director’s loans, and they work very differently.
This is the most common type and the one the ATO focuses on. It happens when you take money out of the company’s funds for personal use. In other words, it’s the company lending money to you, and you’ll need to pay it back. For example, you take a $5,000 loan to cover unexpected medical expenses. The loan is formally recorded, includes a repayment plan, and tracks interest if required.
This type of loan can trigger Division 7A, which treats unpaid loans as unfranked dividends if they’re not properly documented and repaid on time.
This happens when you put your own money into the business, usually to cover start-up costs, equipment purchases, or a temporary cashflow shortage. In this case, the company owes you. You’re the creditor, and the company is the debtor.
This type doesn’t create Division 7A issues because it’s you lending to the company, not the other way around.
You’ll often hear the terms director’s loan and shareholder loan used interchangeably. In many small companies, the director and shareholder are the same person, so the terms overlap. The important part is that any loan between an individual involved in the company and the company itself counts, regardless of which title you’re using.
A director’s loan should only be used in genuine emergencies when personal funds aren’t enough. It’s not a routine tool and shouldn’t become part of your normal cashflow strategy.
When the company lends money to a director, it’s usually to cover large, short-term, business-related costs, not everyday living expenses or personal tax bills. These situations tend to be unexpected and require fast access to funds.
A classic example is when a director suddenly needs to pay for water restoration services after an office flood. The business must respond quickly, and a director’s loan may bridge the gap until insurance or cashflow catches up.
Other legitimate scenarios for a director’s loan include urgent or unexpected company expenses that cannot be covered through normal cash flow. This might involve replacing critical equipment, covering essential deposits for new premises, or managing short-term delays in client payments that would otherwise disrupt operations.
Never use a director’s loan to top up wages. If the business can’t afford the PAYG withholding or income tax on proper wages, a director’s loan won’t fix the problem.
What to do instead: Review payroll levels, cut unnecessary expenses, and renegotiate payment terms with suppliers or clients. Consider temporary salary reduction for directors.
What to do instead: Adjust your personal budget, seek a personal loan, or take proper remuneration (salary/dividends) if the company can legitimately support it.
What to do instead: Reassess your remuneration strategy. If the company cannot sustainably pay you more, reduce personal spending or restructure the business.
What to do instead: Seek urgent professional advice. Focus on restructuring, cost reduction, and recovery.
What to do instead: Put a Division 7A-compliant written agreement in place before the lodgement day. Ensure required interest and minimum yearly repayments are included.
What to do instead: Talk to an accountant immediately about damage control such as adjusting future remuneration or making catch-up repayments.
What to do instead: Explore bank financing or restructure repayments with the company before committing.
What to do instead: Use personal savings, personal credit, or adjust your salary/dividend strategy legitimately.
Division 7A is an Australian tax rule that stops private company profits being taken by shareholders or associates without paying tax. If your company makes a loan, pays an amount, or forgives a debt without proper paperwork, the ATO can treat it as a “deemed dividend,” which becomes taxable income.
Deemed dividends are taxed at your personal tax rate, so informal withdrawals can lead to unexpectedly large tax bills. For 2025, any loan must charge at least 8.25% interest. Unsecured loans must be repaid within 7 years, while secured loans can run up to 25 years if properly documented. Multiple loans can be combined, but all terms must meet the rules. A $200,000 unsecured loan not repaid or charged correctly could be treated as a deemed dividend. At a 37% tax rate, this might mean a $74,000 tax bill.
Some transactions are exempt, including genuine dividends, certain employee loans, or some superannuation arrangements.
Click here to read more about Division 7A
A director’s loan must be approved by shareholders, unless you’re a sole trader, in which case a written approval on record is sufficient. Without written approval, the ATO may treat it as a Division 7A deemed dividend, triggering significant tax consequences.
The loan must be properly documented with a detailed agreement before the company lodges its yearly income. At a minimum, the agreement should include:
When you borrow from your company, make sure you have a clear repayment schedule. Specify exactly how much you’ll pay and how often. This keeps both you and the company on track. Unsecured loans must be repaid within 7 years, while secured loans can extend up to 25 years if proper security is in place, such as a registered mortgage or charge.
It’s critical to lodge the loan agreement and any supporting documents by the company’s income year deadline. Finally, keep thorough records of the loan agreement, shareholder approval, and any security
Step-by-Step Setup:
If you have a director’s loan without a formal loan agreement or you miss the required repayment by 30 June, the unpaid amount could be treated as a deemed dividend and taxed at your marginal rate. Calculating the minimum repayment depends on your loan balance, interest rate, and remaining term.
The calculation takes into account:
Formula:
A $100,000 unsecured loan over 7 years at 8.25% per annum requires a minimum yearly repayment of about $18,500. If you only pay $10,000 of this, the $8,500 shortfall could be taxed as a deemed dividend.
Keeping clear records in a spreadsheet, accounting software, or Division 7A loan register ensures you can track repayments.
If your director’s loan isn’t compliant, the unpaid amount can be treated as a deemed dividend and taxed at your personal tax rate plus the Medicare levy. For example, a $100,000 non-compliant loan for someone on a 37% tax rate could trigger a tax bill of around $41,500.
The ATO can also charge penalties and interest, and your company may have additional withholding obligations on the deemed dividend. Non-compliance can quickly become costly and create extra administrative work.
If a loan has already fallen out of compliance, it can often be fixed. This might involve executing a proper loan agreement, making extra repayments, or restructuring the loan. You can also use the ATO’s voluntary disclosure process to reduce penalties and show good faith.
It’s not unusual for directors or shareholders to have taken money from the company without a formal loan agreement. This might happen when covering personal expenses, bridging temporary cash flow gaps, or taking early distributions before a proper loan was set up.
If this applies to you, it’s important to act quickly. One option is to formalise the loan retroactively with a compliant Division 7A loan agreement. This includes setting the correct interest, repayment schedule, and, if needed, securing the loan. Timing matters, as there are limits on backdating agreements.
Working with an accountant is crucial. They can calculate the minimum yearly repayments, check interest rates, and prepare the necessary documentation. In some cases, making a voluntary disclosure to the ATO can reduce penalties and show good faith.
When considering fixing the loan, weigh the cost of rectifying it against the potential tax, penalties, and interest if left uncorrected. Often, formalising the loan or making repayments is far cheaper than paying the full deemed dividend tax plus penalties.
When extracting money from a private company, directors and shareholders typically have three main options: salary, dividends, or a director’s loan. Each has different tax consequences, cash flow effects, and administrative requirements.
If you take a director’s loan from your company, keep records for at least five years. Good documentation keeps your finances transparent and ensures you can show compliance if required.
Make sure you keep:
Director’s loans can be a useful financial tool, but they require careful management. An accountant should review all aspects of the loan, including the loan agreement, interest rate, repayment schedule, and any supporting documentation. They can also check that shareholder approvals or written confirmations are in place and that the loan is accurately reflected in company records.
When meeting with your accountant, it’s useful to ask:
Ideally you should seek advice before taking out a director’s loan, rather than trying to fix issues after the fact. Early guidance ensures the loan is structured properly from the start and reduces the risk of mistakes.
Yes, you can take an interest-free loan, but the terms must be formally documented. Without proper terms or approvals, unpaid amounts could be treated as income and taxed.
Work with your accountant to create a proper agreement, set interest and repayment terms, and record everything. In some cases, voluntary disclosure to tax authorities can reduce penalties.
Tax only applies if repayments aren’t made or if the loan terms are breached, at which point the unpaid balance could be treated as taxable income.
Waiving repayment without proper process can create a taxable event, as the amount may be treated as income. If repayment is to be forgiven, consult an accountant first to understand the consequences and ensure all approvals and documentation are correct.
Loans can still be made from a company that isn’t currently profitable, but repayments and interest must be structured realistically. An accountant can help plan a repayment schedule that the company can sustain without jeopardising cash flow.
Yes, multiple loans are possible, but they should be recorded clearly and potentially combined into one account for tracking. Each loan must be properly documented and adhere to agreed terms to avoid administrative confusion and potential taxation issues.
Unlike a dividend, a director’s loan is expected to be repaid and can include interest. Dividends are distributions of profit and are immediately taxable to shareholders. Loans offer more flexibility but require careful record-keeping to remain legitimate.
You can make additional repayments at any time. Paying off the loan faster reduces interest costs and simplifies record-keeping.
Director’s loans can offer you short-term relief but they come with obligations. Make sure you get shareholder approval or written confirmation and have a formal loan agreement with clear terms. Keep track of repayments and interest, and maintain complete records. It’s also important to remember that director’s loans should be treated as an emergency or short-term measure, not a routine way to extract funds from the company.
If you’re considering a director’s loan or need help rectifying an existing arrangement, Darcy Bookkeeping and Business Services can guide you through the process. Our qualified accountants provide tailored advice, help prepare and review agreements, and ensure all records and repayments are correctly managed. If you need help with your director’s loan, send us an enquiry or call us on 1300 728 875.
