Five years into the longest recession that any of us have seen, I am still seeing situations where shareholding directors have continued to draw money in lieu of salary, in anticipation of the overdrawn loan account that this creates being repaid by the dividend to be declared at the end of the year.
By adopting this strategy, there is an obvious saving to be made in the amount paid in National Insurance contributions by both the company and the director and this is all perfectly legal. The problem arises, however, when the company does not have sufficient profits or distributable reserves to declare a dividend at the end of the year. In such circumstances there is an overdrawn director’s loan account sitting in the accounts at the end of the financial year which will attract a S455 taxation liability which is payable by the company.
Far worse than this, however, is if a director has been withdrawing funds by way of an overdrawn director’s loan account, as described above, but the company becomes insolvent and a liquidator is appointed before dividends can be legally declared to repay the loan account, the consequences are very serious indeed.
One of the duties of a liquidator is to review payments made to directors and shareholders in the period leading up to the insolvency of the company. I am experiencing cases where an overdrawn director’s loan account is sitting in the accounts at the date the company ceases to trade and the director explains to me that on the advice of his accountant, he had been taking drawings instead of a salary through the PAYE system and therefore it is not really an overdrawn loan account. Unfortunately the law does not see it this way and the overdrawn loan account is repayable in full to the company. Had the money been taken as a salary in line with the director’s terms of employment, then nothing would have been repayable.
Problems also arise where in earlier years dividends have been declared to clear a director’s overdrawn loan account but when a liquidator looks at the financial position during the period in question, it can be shown that the company did not have sufficient reserves to declare such dividends. In such cases, again, a director may be required to repay the value of the illegal dividends back to the company.
During these uncertain times, my advice to all directors is that if there is any doubt about the solvency or profitability of the company, consider very carefully whether the savings that can be made in National Insurance contributions are worth the possible claim by a liquidator for the repayment of previous drawings received.
Similarly, accountants and financial advisers should review all their client’s arrangements where directors are taking minimal salaries and receiving drawings in anticipation of future dividends to test the solvency position of the company and if necessary advise their clients to join the PAYE system, even if this adds additional costs to the business.
The debate continues about the effect Zombie companies are having on the economy and I even saw the other day the term “Zombie bank”. The FT has also extended the debate by highlighting the rising number of European Zombie companies that exist and in part, blaming them for the weak economic recovery in Europe.
The definition of a Zombie company is well rehearsed, being a company only able to cover interest on its borrowings and making no inroads into capital debt. Last November R3, the insolvency industry trade association, reported that one in ten companies in the UK is able to pay only interest on their debts but not reduce the debt itself, an increase of 10% over the preceding five months. The term must surely also be applicable to certain members of the Euro zone creating the frightening term “Zombie countries”.
There are two very distinct schools of thought on the subject of Zombie companies. The first is that the existence of such companies is stifling growth by utilising scarce resources in the form of available funding to keep alive an entity that has no future. The belief is that market forces should dictate whether a company is good enough to survive and a company should not be propped up for artificial reasons. Zombie companies could be likened to the Red Weed in the War of the Worlds, choking everything in its path and leaving a trail of death in its wake.
The second school of thought is less dramatic advocating that stability and employment at the moment is of greater importance than adhering strictly to the law of true market forces and by supporting Zombie companies, time is being given to allow the economy to recover rather than pushing such companies into insolvency.
History will be the judge of which view was correct but in my opinion, Zombie companies will continue to exist for the next few years until the economy starts to properly recover, the Banks have strong enough balance sheets to act against non performing borrowers and the pressures of growth finally brings the existence of the Zombie to an end.
In the 1990’s the Government sold a number of licences for mobile phone networks to be erected across the UK. It was in 1994 that Orange was officially launched and since then, telecommunication and electronic giants have been fiercely competing to bring us the latest in technology.
We have seen an increase in internet speeds and the evolution of hand held tablet devices and smart phones. There are in excess of 190 million active websites now available at your finger tips, wherever you happen to be. Would your grandparents have believed you if you had told them 50 years ago they could watch television on a small handheld device that makes phone calls, with no wires, anywhere in the UK. They would be amazed and rightly so.
The electronic age has certainly had a big impact on the traditional high street. The increase in online spending has contributed to the downfall of iconic stores such as Our Price, Woolworths, TJ Hughes, Adams and Peacocks. The list of casualties continues to grow and in 2012 saw the permanent closure of Habitat and Comet stores.
Recent reports in the media suggest that the signs don’t look good for the small independent retailer with average sales during the lead up to Christmas unable to repair what has been a poor 2012. With business rates set to increase and the rent falling due on 21 December 2012, it looks like the retail sector will continue to face very difficult trading conditions.
My message is therefore very simple. If you wish to retain the character of your local high street and enjoy your weekend amble with the family, make sure you buck the trend of online shopping and get out there and support your local independent retailers. In my experience, the little bit extra that you pay is more than offset by the level of customer service that you receive.