Borrowing tends to go wrong in the books in one of two ways: the whole monthly repayment is posted as an expense, so the loan never seems to go down, or it is all posted against the loan, so interest never reaches the profit and loss account. Both come from treating a loan as a single line rather than as a facility with its own statement, schedule and terms.
A ledger account for each facility
Open a separate liability account for every loan, named so anyone can match it to paperwork: Bank loan – term loan ending 7712, HP – Transit van, Director loan – J Patel. Two loans from the same bank still get two accounts, because they have separate statements and separate repayment profiles. Alongside them you need:
- Loan interest, an expense shown under interest payable and similar expenses
- Hire purchase interest, if you want it visible separately
- a place to hold arrangement fees while they are spread over the loan term (see below)
The numbering is up to your software; the nominal codes guide explains the usual ranges.
Drawing down
When the bank advances £60,000, the entry is simply:
| Account | Debit | Credit |
|---|---|---|
| Bank | £60,000 | |
| Bank loan – term loan ending 7712 | £60,000 |
The loan is not income and the repayment of capital is not an expense. Only the interest and fees affect profit.
Splitting each repayment
A fixed monthly direct debit of £1,250 is mostly capital in later years and mostly interest in early ones, and on a variable-rate loan the split changes whenever the rate does. Take the split from the lender’s statement, not from a guess or a schedule you built at the start.
For a month where the statement shows interest of £310.42:
| Account | Debit | Credit |
|---|---|---|
| Loan interest | £310.42 | |
| Bank loan – term loan ending 7712 | £939.58 | |
| Bank | £1,250.00 |
If the lender sends statements only annually, post each payment to the loan account during the year. When the statement arrives, move the year’s interest out with one journal (debit loan interest, credit the loan). Before you finalise, the loan account balance must match the closing balance on the lender’s statement. If it doesn’t, an interest charge, a payment holiday or a fee has been missed.
For future planning, the loan calculator shows how repayments are likely to split over the term.
Due within one year, due later
The Companies Act balance sheet formats split creditors into amounts falling due within one year and amounts falling due after more than one year. A loan repaid in instalments belongs in both. At year end, use the lender’s repayment schedule to find the capital due in the next twelve months.
With £45,800 outstanding at the year end and £13,200 of capital due over the following year:
| Heading | Amount |
|---|---|
| Creditors due within one year: bank loans and overdrafts | £13,200 |
| Creditors due after more than one year: bank loans and overdrafts | £32,600 |
Keep the ledger as one account per facility and make the split as a year-end presentation adjustment, either by journal to a “current portion” account that you reverse on the first day of the new year, or in the accounts production software. A loan in breach of its covenants at the year end may be repayable on demand, which can make the whole balance current; tell your accountant.
Arrangement fees
Lenders often deduct an arrangement fee from the advance. Under FRS 102 the fee is treated as part of the cost of borrowing: it reduces the loan’s carrying amount and is charged to the profit and loss account over the life of the loan, not all at once. Smaller companies usually spread it evenly where that gives a similar result.
Hire purchase
With hire purchase, you take ownership at the end of the agreement, so the asset goes on your balance sheet from day one and the agreement is a liability. For a van with a cash price of £30,000 plus VAT, a £6,000 deposit and finance charges of £3,600:
| Account | Debit | Credit |
|---|---|---|
| Motor vehicles (cost) | £30,000 | |
| Input VAT | £6,000 | |
| Bank (deposit) | £6,000 | |
| HP – Transit van | £30,000 |
VAT is charged on the cash price at the start of the agreement and is reclaimable on the HP invoice for a van used for business; for most cars it is blocked. The finance charges carry no VAT and are released to HP interest over the term, with each instalment reducing the HP account. As with a bank loan, split the balance between within one year and after more than one year at the year end. Leases where you never own the asset are a separate case; see leasing accounts in the chart of accounts.
Money the directors lend
When a director pays a company bill personally or transfers money in, the company owes them. That credit balance on the director’s loan account is a liability like any other loan, normally shown under other creditors falling due within one year unless there is a written agreement deferring repayment.
If the company pays the director interest on a loan expected to last more than a year, it usually has to deduct basic rate income tax from the interest and report it to HMRC on form CT61. Agree a rate in writing, and record the interest in the loan interest account so it sits with the company’s other finance costs.