Company Loans to Directors/Shareholders (& Vice Versa) in Singapore
If you are a shareholder or director of a company looking to enter into a loan agreement with that company, there are a number of restrictions that you must know about.
Generally, it is not permitted for a director to take a loan from the company. However, it is possible to do so if you follow the rules in place to ensure proper corporate governance.
Directors (and Related Persons) Taking a Loan from the Company
There are many reasons why a director may wish to take a loan from their company.
One situation is where the director requires funds to carry out business on behalf of the company. This may be an attractive option where the company has surplus cash in a tight lending market (where higher interest rates may be charged by money lending institutions).
However, the general rule is that loans made by a company to its director, or to a director of a related company (referred to as a “relevant director” in this article), are not permitted. Related companies are those that belong in the same group, e.g. as holding or subsidiary companies.
This general rule applies not just to standard loan agreements, but also to all quasi-loans, credit transactions and guarantees that are made for the benefit of a relevant director.
A quasi-loan is a transaction where the company would agree to pay a sum incurred by the director or relevant director on the terms that the director or relevant director would repay or reimburse the company.
Credit transactions cover transactions where the company would:
- Supply goods or dispose of immovable property under a hire-purchase agreement or conditional sale agreement;
- Lease or hire immovable property or goods in return for periodic payment; or
- Otherwise dispose of immovable property, supplies, goods or services, on the understanding that payment is to be deferred.
Finally, guarantees include the company entering a guarantee or providing security for a loan, quasi-loan, or credit transaction made by or for the benefit of a director.
The restrictions on granting loans from company to directors and relevant directors also apply to these directors’ related persons. There are two types of related persons that the Companies Act (CA) identifies.
The first are the director’s family members, who include the director’s spouse, children (including adopted children) and step-children. In other words, such family members of the director are generally not allowed to obtain loans from the director’s company.
The second type is where the lending company is not an exempt private company, and its director has a 20% voting interest or more in the company or limited liability partnership that is taking the loan (referred to as an “interested director” in this article). An exempt private company is one with less than 20 members, and no company has any beneficial interest in its shares.
In such a situation, this borrowing company or limited liability partnership will also be considered a related person. Any loan between these entities will need prior approval from the lending company in a general meeting. The interested director (and his family members) will also have to abstain from voting on it.
For the purposes of determining whether the director has the requisite interest in the borrowing company to trigger the restrictions in the CA, the interests of the director’s family members are deemed to be the interests of the director. The implications of this are that even if the director does not have a 20% or more voting interest in the borrowing company, the loan will still require prior approval if the director’s family members cumulatively have such an interest.
Exceptions to restricted loans
There are a number of exceptions to the general rule. Loans made to a relevant director are permitted in the following scenarios:
- Where the loan is made to the relevant director for the purposes of meeting expenditure that the director incurs for company purposes, or for the director to properly fulfil his duties as a director.
- Where the director is in full-time employment of the company or a related company, and the loan is for the purpose of acquiring a home for the relevant director to live in (provided not more than one such transaction is outstanding).
- Where the relevant director is in full-time employment of the company or a related company, and the loan given is in accordance with a scheme to benefit employees. This scheme must have been approved in a general meeting.
- Where the company’s ordinary business includes the lending of money and the loan is given to the relevant director in the ordinary course of business. The company’s activities must also be regulated by written laws relating to banking, finance or insurance, or regulated by the Monetary Authority of Singapore.
In addition, as suggested above, lending companies which are exempt private companies may make loans to a borrowing company even if a director of the lending company has a 20% or more voting interest in the borrowing company.
Obtaining approval for the loan
If the loan fits under the first two stated exceptions, approval for the loan must be obtained from the company at a general meeting. During this meeting, the purpose and amount of the loan must be disclosed.
Additionally, the loan must be made under the condition that if such approval has not been obtained at or before the next following Annual General Meeting (AGM), the amount of the transaction will be repaid within 6 months from the conclusion of the AGM. The directors who authorised the loan will also be jointly and severally liable to indemnify the company from any losses incurred from the loan being made.
For transactions involving a company where the director has at least 20% voting interest, such transactions are permitted as long as prior approval from the company has been obtained in a general meeting. However, the interested director and his family members must abstain from voting (as mentioned above).
What happens if the restrictions are contravened?
Any director who authorises the making of a loan in contravention of the allowed exceptions and approval requirements will be guilty of an offence. Such director(s) will be liable to a fine of up to $20,000 or imprisonment for up to 2 years.
Interest rates and tax implications
There are no legal requirements as to the interest payable for a loan from a company to its director or related persons. Therefore, it is possible for such loans to be interest-free, or subsidised (where a third-party pays for the loan interest).
However, such loans may be taxable. As company directors are considered to be employees of the company under income tax law, any benefit derived from a loan from the company is deemed to be an employment benefit if it was obtained in the director’s capacity as a director of the company. Hence, interest benefits are taxable as employment benefits.
The value of the interest benefit can be determined by multiplying the amount of the loan outstanding as of 31 December of each year, by the average prime-lending rate for that year.
However, if the director is also a shareholder, and the loan is provided to the director in his or her capacity as a shareholder (instead of his or her capacity as director), any interest benefits would not be employment benefits and would thus not be taxable.
Whether a loan by a director-shareholder of a company is taken in the capacity as a shareholder, or as a director, depends on the facts of the situation. The following factors are taken into account in this assessment:
- There are legitimate, non-tax reasons for it to be in the form of a loan instead of dividends.
- There must be evidence of genuine intent to create a debtor/creditor relationship and that there are reasonable expectations that the loan be repaid. This can be demonstrated by the presence of a repayment schedule in the loan agreement.
- There are loans extended to other shareholders of similar terms and amount. The amount should also not depend on the position of the borrower in the company.
- There is documentary evidence that the loan is provided to the borrower in their capacity as a shareholder. This may be in minutes of meetings, directors’ resolutions, etc.
Disclosure of interests and directors’ duties
Directors also have a statutory duty to disclose any interest they have, direct or indirect, in any transaction or proposed transaction with the company. This would include any loan taken by the director or related persons from the company.
The nature of this interest must be disclosed at a directors’ meeting. Additionally, a note must be sent to the company detailing the nature, character, and extent of the interest. These steps must be taken as soon as practicable after the director becomes aware of the interest.
Directors also have a statutory duty to act honestly and use reasonable diligence when performing their duties as a director. A director must not use his or her position or knowledge acquired by virtue of his or her position to cause any benefit to himself or any other person or to cause harm to the company.
For example, when a director makes the decision to enter into a loan agreement with the company, the director must honestly believe that the loan will not be detrimental to the company.
If a director is found to have improperly taken loans from the company in breach of his duty to act honestly, he or she is liable for any profit made, or damage suffered by the company due to his wrongdoing. Furthermore, he or she faces a fine of up to $5,000 or imprisonment up to 12 months.
Shareholders Taking a Loan from the Company
Shareholders of a company do not owe the same duties and responsibilities to the company that a director does. Due to this, there are no legal restrictions concerning loans from the company to a shareholder.
Whether a loan from the company to a shareholder is permissible, and on what terms, is dependent on the decision of the board of directors.
When deciding whether or not a loan to a shareholder should be granted, the directors must act in accordance with their duties as a director.
Interest rates and tax implications
As explained above, if a loan is taken from the company by a shareholder in their capacity as a shareholder, any interest benefits would not be taxable.
Directors or Shareholders Loaning Money to the Company
It is extremely common, especially with start-ups in their early stages, for companies to receive funding in the form of loans from its directors or shareholders.
Unlike the numerous issues with directors and shareholders loaning money from the company, loaning money to the company is relatively straightforward.
Approval for the loan need only be given by the board of directors. Further, such loan agreements may not contain extensive representations which are typically made by the borrower to induce the lender into entering the agreement.
Examples of such representations may include assertions that:
- The borrower is capable of complying with its obligations under the agreement.
- All financial information relevant for the lender to assess whether it wishes to become a creditor has been provided and is accurate.
A possible reason why such loan agreements may be more simplistic is that being a shareholder or director of the company, the lender is often cognisant of the company’s financial situation, or in a better position to find out about this.
For example, they are empowered by the CA to access the company’s financial statements, and may also be aware of the company’s future business plans. Hence, they may not require as many representations from the company to be induced into entering into the agreement.
Interest rates and tax implications
Due to the relationship between a director or shareholder and the company, any loan from a director or shareholder to the company can be interest-free.
There are a plethora of considerations to take into account when structuring your loan or drafting your loan agreement. To ensure you are complying with all legal requirements and restrictions, get in touch with one of our corporate lawyers for assistance.
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