Division 7A Director Loans

There is a line on the balance sheet of most small private companies that nobody wants to talk about.

It is usually labelled “Loan – Director” or “Shareholder Loan Account.” It grows quietly. A transfer to cover the mortgage. The family car. School fees in a lean month. Personal expenses run through the company card and sorted out “at year end.”

While the business is healthy, that line is an accounting issue. When the business is under pressure — ATO arrears mounting, a restructure on the table, a liquidator on the phone — it becomes a personal one.

Division 7A is the reason. And the way it interacts with a Small Business Restructuring, a liquidation, and the tempting idea of simply forgiving the loan is where I see directors get hurt most.

What Division 7A actually does

Division 7A of Part III of the Income Tax Assessment Act 1936 exists to stop shareholders, and their associates, taking money out of a private company tax-free.

If a private company makes a payment to, lends money to, or forgives a debt owed by a shareholder or associate, that amount can be treated as an unfranked deemed dividend — assessable in the individual’s hands at their marginal rate, with no franking credits to soften it.

For a loan, the way out is well known:

• Repay it before the company’s tax return lodgment day for the year the loan was made, or
• Put it on a complying loan agreement before that day — a maximum term of 7 years unsecured, or 25 years if secured by a registered mortgage over real property — with interest at least at the benchmark rate, and minimum yearly repayments made every year after that

The benchmark rate for the 2026–27 income year is 8.77%, up from 8.37% last year.

That last point is the one that matters for this article. A complying loan agreement is not a one-off fix. It is a commitment to pay the company principal and interest, every year, for up to 25 years. Miss a minimum yearly repayment and the shortfall becomes a deemed dividend in that year.

How a director loan becomes a tax debt

In my experience, Division 7A problems almost never start as tax planning. They start as cash flow.

The pattern is familiar:

• Trading gets tight. The director draws on the company to keep the household running.
• BAS and PAYG withholding go unpaid, because that money has gone somewhere else.
• At year end, the accountant has to deal with the loan balance — and the director has no cash to repay it or meet a minimum yearly repayment.

The usual year-end “solutions” each create their own tax problem:

• Pay the director a salary or bonus to clear the loan. That creates PAYG withholding and, for employees, super obligations — precisely the liabilities that sit inside the director penalty regime. You can turn a Division 7A issue into Director Penalty Notice exposure with one journal.
• Declare a dividend to offset the loan. A company can only pay a dividend if its assets exceed its liabilities immediately beforehand, the payment is fair to shareholders, and it does not materially prejudice the company’s ability to pay creditors (section 254T of the Corporations Act 2001). A company carrying ATO arrears is often in no position to meet that test. And the dividend is still taxable to the director.
• Do nothing. If the loan was never put on a complying agreement in time, the whole unpaid balance can be a deemed dividend in the year it was made, and the ATO can amend earlier returns, with shortfall interest and penalties on top.

Every one of those paths ends in the same place: a personal income tax liability for the director, often on money that was spent years ago. There is no cash sitting there to pay the bill. That is how a company problem becomes a personal ATO debt.

Division 7A and a Small Business Restructuring

The Small Business Restructuring process under Part 5.3B of the Corporations Act is a genuinely useful tool. The director stays in control, a restructuring practitioner helps prepare a plan, and creditors vote on a compromise of the company’s debts. For most small companies with tax debt, the ATO is the largest creditor — and its vote often decides the outcome.

A director loan account sits awkwardly in that process for three reasons.

1. The loan is a company asset, and creditors will see it.

A debt the director owes the company is an asset of the company. It has to be disclosed, and the restructuring practitioner will ask about it. When creditors are being asked to accept 20 or 30 cents in the dollar while the director owes the company a six-figure sum, the obvious question is: why isn’t that money being repaid into the plan?

2. The ATO looks for exactly this.

The ATO has been clear about what it examines when deciding how to vote. It looks at whether director loans, drawings and related-party transactions are transparent and explained, and whether money has been taken out of the business without tax being paid. If creditors are being asked to compromise while the director appears to have benefited, the plan is at real risk of being voted down. Unresolved director loans are a recognised red flag.

3. The plan compromises the company’s debts — not the director’s.

An approved restructuring plan deals with what the company owes its creditors. It does nothing to the director’s loan owed to the company, and it does nothing to any Division 7A consequences already sitting with the director personally. Directors are sometimes surprised to find the company comes out of the SBR clean while their own tax position does not.

There is also a sequencing risk. If the plan is rejected, or later fails, the likely next step is liquidation — and the loan account becomes the liquidator’s business.

Practically, before proposing an SBR: get the loan account reconciled and explained, understand the Division 7A position for each year it has existed, and think about what the director can realistically contribute. A plan that deals openly with the director loan is far more likely to get ATO support than one that hopes nobody notices it.

Division 7A in a liquidation

When a company goes into liquidation, the director loan account stops being an accounting entry and becomes a debt the liquidator is obliged to recover for creditors.

This is one of the most common sources of recovery in small company liquidations. The liquidator will demand repayment, and if it is not paid, can sue for it. A director who cannot pay faces a judgment debt and, potentially, bankruptcy. Terms in a complying loan agreement do not necessarily protect the director here — liquidators will look closely at whether the loan is repayable on demand or on default.

A few points worth knowing:

• Set-off has limits. If the company genuinely owes the director money — unpaid wages or funds the director lent in — set-off of mutual debts may be available under section 553C of the Corporations Act. But it is not available for dealings entered into when the director knew the company was insolvent, and liquidators will test any claimed credit hard.
• Late write-offs get unwound. Reclassifying or forgiving the loan shortly before an appointment is exactly the kind of transaction a liquidator will look at as an uncommercial transaction or an unreasonable director-related transaction. It can be clawed back.
• The loan is rarely the only claim. A liquidator who is pursuing a loan account will usually also be reviewing insolvent trading. And separately, the ATO may be pursuing the director under the director penalty regime for PAYG and GST. The same director can be facing three claims at once.

“Can’t we just forgive the loan?”

This is the question I hear most often, and it is the one with the most counterintuitive answer.

Under section 109F, when a private company forgives a debt owed by a shareholder or associate, the amount forgiven is treated as a deemed dividend in the year of forgiveness. Forgiveness is not a way out of Division 7A. It is one of the things Division 7A was written to catch.

So forgiving a $300,000 loan account does not make $300,000 disappear. It moves it — from a debt the director owes the company, to assessable income the director reports personally. At the top marginal rate, that is well over $130,000 of personal income tax, unfranked, with no cash received to pay it.

In other words, forgiveness swaps a debt owed to your company for a debt owed to the ATO. And the ATO has considerably more recovery tools than your company does.

Some nuances matter:

• The distributable surplus cap. The deemed dividend is limited to the company’s distributable surplus under section 109Y — broadly, its net assets after certain adjustments. In a genuinely insolvent company, that may be small or nil. But do not assume. The Commissioner can substitute his own view of asset values if he considers the accounts understate them, and a company that was solvent when the loan was forgiven may have had a very real surplus.
• Timing cuts both ways. Forgiving the loan before an insolvency appointment may be capped by the surplus — but it also creates exactly the voidable transaction risk described above. You can end up with the tax consequence and a liquidator claiming the money back.
• Bankruptcy is different. A debt released because the director becomes bankrupt is not treated as forgiven for these purposes. That is not a strategy — it is a sign of how far down the path things usually are before anyone asks the question.
• Associates count. Loans to a spouse, family member or related trust are within Division 7A too, and forgiving them carries the same result.

The personal tax debt that results from a forgiveness is an ordinary income tax debt of the director. It attracts general interest charge, it can be pursued through garnishee notices and refund offsets, and it can lead to bankruptcy proceedings. It sits entirely outside anything the company can restructure.

What to actually do

If your company has a director loan account:

• Know the balance at every year end, and know whether it is on a complying loan agreement
• Make the minimum yearly repayments — or understand exactly what it will cost you if you don’t
• Don’t clear it with a salary or dividend without understanding the PAYG, super and solvency consequences

If you are considering a Small Business Restructuring:

• Deal with the loan account before the plan is proposed, not after the ATO asks about it
• Be ready to explain every material drawing, and to show what you are contributing

If liquidation is a realistic outcome:

• Assume the liquidator will pursue the loan account
• Get advice before forgiving, reclassifying or journaling anything away — the transaction you do in the last six months is the one most likely to be reversed

If someone suggests forgiving the loan:

• Ask for the personal tax calculation first. Then ask who is going to pay it.

Division 7A rarely causes a business to fail. But when a business is struggling, it determines how much of that failure follows the director home.

If your company has a loan account and ATO arrears, that is worth a conversation before the restructure, the liquidation or the year-end journal — not after.

Are you unsure of or concerned about your director’s loan or money you have taken from the company that has not been correctly recorded?

It may be worthwhile booking a review with the Business Tax Debt Help Accounting team to review your books and records. We can fix your accounts, reconcile them properly, and get them back on track.

Click below to book an appointment with our team.

General information only, current as at September 2026. It does not take into account any particular person’s circumstances and is not tax, legal or financial advice. Division 7A outcomes depend heavily on the facts, including loan terms, timing and the company’s financial position — get advice specific to your situation.

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