Individuals (e.g., sole traders or company owners) often lend money to their business to help fund its day-to-day operations. Unfortunately, some businesses ultimately fail. Consequently, the loan may become irrecoverable, resulting in it being written off.
Relief is At Hand…Or is It?
A crumb of comfort is that the individual may be able to claim a loss for capital gains tax purposes (under TCGA 1992, s 253) if the loan becomes irrecoverable in certain circumstances. Broadly, the relief applies to money lent wholly for the purposes of the borrower’s trade (excluding money lending), profession or vocation (or to set it up). Bank overdrafts and credit card balances are capable of qualifying. Relief is also potentially available where a payment has been made under a guarantee in respect of such a loan.
A key requirement for relief is that the loan has become irrecoverable. HM Revenue and Customs (HMRC) sometimes checks claims where there is only a short period between the loan being made and the date on which the loan is claimed to have become irrecoverable. If there wasno reasonable prospect that the loan would be recovered when it was made, HMRC may seek to deny relief on the basis that the loan had not become irrecoverable. Disputes over whether a loan has become ‘irrecoverable’ have resulted in litigation between taxpayers and HMRC.
Had It ‘Become Irrecoverable’?
For example, in Bunting v Revenue and Customs [2024] UKFTT 275 (TC), the taxpayer set up a trading company (RSL) in July 2004. The business activities were funded by the taxpayer, who personally loaned £3,452,771 to the company. However, by 2012, the business was becoming unsustainable. In January 2013, the taxpayer and RSL entered into an agreement to capitalise £2,200,000 of the loan (i.e., RSL issued 2,200,000 ordinary £1 shares in consideration for the taxpayer releasing and discharging RSL from £2,200,000 of the loan). However, on 31 January 2013, RSL (and so the shares) had no value. The taxpayer claimed capital losses, which HMRC also refused. The taxpayer appealed.
In allowing the taxpayer’s appeal, the First-tier Tribunal (FTT) considered the meaning and effect of the capital loss relief legislation: ‘makes a claim and at that time…any outstanding amount of the principal of the loan has become irrecoverable’. The FTT found that at the time of the claim, the debt must be unpaid and where there was a right of enforcement it was reasonably considered that the debt would not be paid. Where there was no right of enforcement it was almost inevitable that the requirement of irrecoverability would have been made out. The FTT also considered whether the contractual effect of the capitalisation agreement excluded the taxpayer from a capital loss relief claim. The FTT concluded that on the basis there was no valuable consideration provided under the capitalisation agreement, the taxpayer was not excluded from capital loss relief (NB. the position would have been different had the issued shares had value).
Practical Tip
The loan having become irrecoverable is only one of the conditions and requirements for capital loss relief. Care is needed to satisfy them all (e.g., loans to a self-employed spouse’s or civil partner’s business are excluded). HMRC has published detailed guidance in its Capital Gains Manual at CG65900-CG66081, and expert professional advice should be sought, if in doubt.