Employee Loans – what are the rules?
Many employers are faced with requests from employees for an emergency loan. The response differs widely between employers. Some will advance money to employees whilst others won’t.
If you fall into the former category you should be aware that there are IRD Fringe Benefit Tax (FBT) rules which govern employee loans.
What constitutes a loan?
A loan includes:
- any advances to an employee such as an advance on their salary
- money lent in any way
- deposits paid by the employer
- any credit extended including a delay in recovering a debt along with an overdue current account of a shareholder-employee
Bear in mind too that if another person extends funds on behalf of the employer, they may be caught by these rules. That would include an associated company.
How is the FBT calculated?
The interest actually charged on a loan is compared with the prescribed interest rate. If there is a favourable difference then FBT is payable.
The prescribed interest rate is published by the IRD on their website and is set by regulation by an Order-in-Council. The rate is reviewed quarterly and as such do tend to change regularly.
Only employers who are classified as financial institutions can use the market rate. All other employers must use the prescribed interest rate.
The latest quarterly rate set was 5.99% effective for the quarter starting 1 October, 2015. You can see the various rates by clicking here.
What does this mean in practice?
If you loan money to an employee, even if it is an advance on their salary, interest should apply.
If you don’t charge interest you will be subject to FBT.
If you charge less interest than the prescribed interest rate, FBT will apply on the difference.
If you charge at or over the prescribed interest rate, no FBT is payable.
It may be worth considering a policy on loans for employees for inclusion in your employee handbook.
Many employers simply state that they do not extend loans under any circumstances. Others feel that there are circumstances where they would like to help their employees out.
If you elect to offer loans, the critical point is that you state up front that interest has to be paid. We think it’s a good idea to let the employee know why you are charging interest so that they don’t assume you are trying to gain advantage from their predicament. The prospect of interest may also cause the employee to think twice about asking. We also believe that you should prepare a loan agreement so that everything is set out in writing.
There are some additional rules that apply to low interest employee loans which you can see by clicking here.
If you decide not to extend loans to employees, it may also be worth giving an overview of the law so that the employees recognise that you would have to charge them interest if you did offer loans.
If you need advice on administering or calculating FBT on loans, please get in touch. You should always seek tax advice specific to your circumstances. This article is general in its application.