Employee Interest Free Loans
In some instances, employers may see fit to offer their employees a number of benefits in addition to their salary. These often include fringe benefits (Benefits In Kind) such as pension contributions or access to a private healthcare scheme. Sometimes, however, employees may also be offered interest-free or low-interest loans.
Loans from employers are sometimes offered solely for specific purposes. For example, many companies have begun offering interest-free loans in order that employees can purchase bicycles or public transport passes in an effort to reduce the company's overall carbon footprint. Others offer such loans for their employees to buy gym membership in order to encourage general workplace wellbeing. In some circumstances, however, employers may offer low-interest or interest-free loans for any purpose, acting therefore as a sort of personal bank to their employees.
Employee Benefit TrustsIn most cases, these loans will be run through an Employee Benefit Trust, or EBT. These Trusts are established by the employer and run by a trustee, and are normally funded by contributions from the employees. This normally begins with a minimum first sum, after which individuals are encouraged to build up the pot as much as they can. In return, employees have access to a number of highly tax-efficient benefits. Furthermore, they are attractive to employers as all contributions to the EBT will be entitled to Tax Relief, as well as being exempt from PAYE and National Insurance Contributions.
From an employee's point of view, loans offered through an Employee Benefit Trust can be a very cheap way of borrowing money. First, it is important to understand how the loan is paid back. This type of loan is judged to have no repayments 'in perpetuity' – in these circumstances, the term of perpetuity is judged to be 80 years. Instead, the money is recovered by the employer through wage deductions. Furthermore, as the employer is already receiving tax relief on the EBT, the loan is unlikely to incur any interest, making it a far more attractive option than a high street bank.
Tax ReliefThe savings on these loans, however, are two-fold. Not only is the employee unlikely to be required to pay interest, they will also receive personal tax relief on the sum that they have borrowed. If, for example, the recipient of the loan is a higher rate taxpayer, they will be required to pay only 2.2% in Income Tax each year. This starkly illustrates the benefits of these loans; if the same employee were to take the sum as, for example, a bonus rather than an EBT loan, they would be required to pay income tax at 50% as well as National Insurance Contributions.
Although there is considerable tax relief available on interest free loans, it is important to remember that in some instances you may still be required to pay income tax. Although the loan itself is subject to tax relief, the purchase that you make with the loan is counted as a benefit in kind and may therefore be taxable.
Loans must be reported to HMRC if the recipient earns more than £8,500, using form P11D. It is likely that you will have to pay Class 1A National Insurance Contributions on the cash value of your purchase; whether or not you will also be required to pay income tax will depend on the nature of the purchase. More information on benefits in kind, including examples of what is and is not taxable, is available in an article elsewhere on this site.