Why Directors Ask This Question
When a company is heading towards insolvency, many directors start looking for ways to tidy up the books. One of the most common issues is an overdrawn director loan account (ODLA).
On paper, it looks simple: if you write off the loan before liquidation, it disappears. But in reality, the move can create bigger problems than it solves. A loan write-off before insolvency may be reclassified, challenged, or even used against the director in future investigations.
Here’s what you need to know before making that decision.
How Does a Director Loan Write-Off Work?
A director loan write-off happens when the company formally waives its right to recover money owed by the director. In theory, this clears the balance from the books.
Methods include:
- Passing a board resolution to write off the balance
- Offsetting the loan against unpaid salary or dividends
- Recording the transaction in the statutory accounts
But the timing and context are critical. If the company is solvent, this may be accepted as an internal adjustment. If the company is insolvent, the write-off is immediately under suspicion.
Why Liquidators Scrutinise Loan Write-Offs
When a company enters liquidation, the liquidator is duty-bound to review any pre-insolvency transactions. A director loan write-off will be examined closely for signs of misconduct.
Concerns include:
- Improper Preference: Was the write-off intended to benefit the director at the expense of creditors?
- Lack of Authority: Was the write-off properly authorised by the board and documented?
- Timing: Did the write-off happen when the company was already insolvent or clearly on the brink of failure?
- Loss of Asset Value: Writing off a loan means creditors lose a potential source of recovery. This can be treated as misfeasance or breach of duty.
Reclassification Risks
Even if a loan is written off, the liquidator or HMRC may reclassify the transaction:
- As Salary: triggering PAYE and National Insurance liabilities
- As a Dividend: potentially unlawful if there were no available profits
- In the form of a Gift or Distribution: subject to reversal if made when insolvent
In each case, the director may still face liability, either through repayment demands, tax bills, or misfeasance claims.
Clawback Powers
UK insolvency law gives liquidators and administrators the ability to reverse transactions that disadvantaged creditors. A director loan write-off shortly before liquidation can be challenged as:
- A transaction at undervalue under section 238 of the Insolvency Act 1986
- A preference under section 239, if the write-off put the director in a better position than other creditors
- Misfeasance under section 212, if the director breached their duty to act in creditors’ best interests
This means the “written-off” loan may be reinstated, and the director could face additional consequences such as disqualification.
Case Example: A Write-Off That Backfired
In 2022, a manufacturing company director wrote off a £50,000 loan from himself just three months before creditors filed for winding up. The liquidator challenged the move as a transaction at undervalue.
The court agreed, ruling that the write-off deprived creditors of potential recovery. The loan was reinstated, and the director was ordered to repay the full balance. He was also disqualified for six years for failing to act in creditors’ interests.
Practical Guidance for Directors
If you are considering writing off a loan before insolvency:
- Do not assume it removes liability– it may simply create a new one
- Seek advice before acting– timing and documentation matter
- Consider alternatives -such as repayment or formal salary/dividend classification
- Preserve transparency– document board discussions and decisions clearly
- Remember creditors’ interests come first once insolvency is likely
Writing off a director loan before liquidation may look like a quick fix. In practice, it often creates more risk than it removes. Liquidators, HMRC, and the Insolvency Service treat these transactions with suspicion.
A director who tries to make the problem disappear may end up with a larger liability, and a greater chance of disqualification.
At IL Advisory, we help directors assess their loan positions and choose strategies that stand up to scrutiny when insolvency is unavoidable.
Facing Pressure Over a Director Loan?
We help directors:
- Review loan accounts and identify risks
- Challenge liquidator demands or reclassifications
- Defend against clawback or misfeasance claims
- Protect reputation and avoid unnecessary personal exposure
Call 020 7692 8456
Email info@iladvisory.co.uk
IL Advisory: Helping Directors Navigate Insolvency Safely and Strategically