Qualifying loan interest

Produced by Tolley

The following Personal Tax guidance note Produced by Tolley provides comprehensive and up to date tax information covering:

  • Qualifying loan interest
  • What is a qualifying loan?
  • Investing in a close company
  • Interaction with enterprise investment scheme and social enterprises rules
  • Interaction with beneficial loan rules
  • Investing in a partnership
  • Interaction with national insurance contributions
  • Interaction with simplified cash basis
  • Restriction of relief where a partnership carries on residential property business
  • Repayment of the partnership capital account
  • More...

Qualifying loan interest

Interest paid on qualifying loans is deducted from the taxpayer’s total income (ie a Step 2 deduction from total income). See the Proforma income tax calculation guidance note.

Interest on qualifying loans is usually paid gross by the individual borrower; tax is not withheld at source. This includes interest payments made by the individual to peer-to-peer lenders. However, where the individual pays interest to an overseas lender, they may be required to deduct basic rate tax on this amount; it depends on whether the lender has a UK permanent establishment. See Simon’s Taxes A4.424.

Qualifying loan interest relief is included in the cap on unlimited income tax reliefs (see below).

What is a qualifying loan?

A qualifying loan is one where the capital amount has been used for a qualifying purpose.

The qualifying purposes are set out in the legislation:

  1. investing in a close company

  2. investing in a partnership

  3. buying shares in an employee-controlled company

  4. purchasing plant or machinery for use in employment

  5. purchasing plant and machinery for use by the partnership

  6. investing in a co-operative

  7. paying an inheritance tax liability

In addition to the qualifying purpose, the loan itself must not be an overdrawn account or money withdrawn on a credit card.

For further reading, see Simon’s Taxes E1.820.

The more common examples of qualifying loans are considered below.

Investing in a close company

A loan taken out by an individual to invest in a company is a qualifying loan if:

  1. it is used to acquire ordinary shares in a ‘close company’ that is not a ‘close investment-holding company’

  2. it is lent to such a company and used wholly and exclusively for the purposes of the business, or

  3. it is used to repay another qualifying loan

Plus, either:

  1. the individual works for the company and owns some of the ordinary shares (the full-time working condition), or

  2. he holds at least 5% of the share capital, taking into account shareholdings of ‘associates’ (the material interest condition)

ITA 2007, ss 392–394

For the definition

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