Recording business loans and interest

Q: What does a full example look like?

Illustration only. A company with a 31 March year end borrows £60,000 on 1 April. The loan is repaid over five years with monthly capital repayments of £1,000 plus interest. The bank deducts an arrangement fee of £1,200 from the advance, so £58,800 reaches the bank account. Drawdown. Debit bank £58,800, credit loan £58,800 (the £60,000 owed less the £1,200 fee). Each month. Debit loan £1,000, debit interest payable with that month's interest, credit bank with the total. Fee. Under FRS 102 the fee is released through the effective interest calculation. Under FRS 105, if the fee is material, it is released on a straight line basis at £240 a year (£1,200 over five years): debit interest payable £240, credit loan £240. After 12 repayments the contractual capital owed is £48,000. Ignoring the unamortised fee, £12,000 is shown as due within one year and £36,000 as due after more than one year. If March's interest is charged by the bank in April, it is accrued at 31 March.

Q: How is loan interest treated for tax?

Companies. Interest and fees on a company's borrowings fall under the loan relationships rules. Section 307 of the Corporation Tax Act 2009 says the amounts brought into account are generally those recognised in profit or loss under generally accepted accounting practice, so the effective interest figure in the accounts is normally the tax deduction. Very large borrowers may also meet the corporate interest restriction, but a group's interest capacity is never less than the de minimis amount of £2 million for a 12 month period (section 392 of the Taxation (International and Other Provisions) Act 2010), so it rarely touches owner managed companies. Sole traders and partnerships. GOV.UK lists interest on bank and business loans as allowable financial costs, while repayments of loans, overdrafts or finance arrangements are not deductible. Interest on money borrowed for private purposes is not a business expense; see interest and bank charges for sole traders. VAT. Lending money is exempt. VAT Notice 701/49 says the charge for a loan or credit is usually described as interest and the supply is exempt, so there is no VAT to reclaim on interest or on the capital repaid.

Q: What mistakes come up most often?

Posting the whole instalment to interest, which overstates expenses and leaves the loan balance unchanged on the balance sheet. Posting the whole instalment to the loan, which understates interest and leaves the loan lower than the lender's statement. Not splitting the balance between due within one year and due after more than one year. Netting an overdraft against a positive bank balance elsewhere. FRS 102 paragraph 11.38A allows offset only where there is a legally enforceable right to set off and an intention to settle net or simultaneously. Writing off a material arrangement fee at once instead of spreading it. Claiming tax relief on capital repayments, which are never deductible. Solar Protect provides tax investigation insurance for businesses and fee protection schemes for accountancy practices. Read how our cover works or get a quote.

A business loan is posted as a liability when the money is received, reduced by the capital part of each repayment, with the interest part charged to the profit and loss account. At the year end the outstanding balance is split between the amount due within one year and the amount due after more than one year, and arrangement fees are spread over the loan’s life rather than written off at once, unless they are immaterial.

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What is the entry when the loan is drawn down?

The basic entry is: debit bank, credit loan account. If the lender deducts an arrangement fee from the advance, the bank receives less than the loan amount, and the fee needs its own treatment.

FRS 102 paragraph 11.13 measures a financial liability at the transaction price adjusted for transaction costs. Its own example says that for a bank loan at a market rate of interest, the payable is recognised at the cash received from the bank less separately incurred transaction costs. Most ordinary bank loans are then carried at amortised cost using the effective interest method (paragraph 11.14(a)), which spreads the fee over the term together with the interest. For the conditions a loan must meet, see FRS 102 Section 11.

Micro entities under FRS 105 have a simpler rule. Paragraph 9.7 deducts transaction costs from the liability unless they are not material, in which case they are expensed immediately, and paragraph 9.15 spreads any costs that were not expensed on a straight line basis over the term.

How are repayments and interest posted?

Each instalment has two parts. The capital element reduces the debt; the interest element is an expense.

Entry	Debit	Credit
Capital element	Loan account	Bank
Interest element	Interest payable (profit and loss)	Bank
Interest accrued but not yet paid at the year end	Interest payable	Accruals

Bank feeds tend to show one figure, so the split must come from the lender’s statement or an amortisation schedule. A practical control is to reconcile the loan account to the lender’s statement at least at each year end; if the two differ, the usual cause is a whole instalment posted to interest or to the loan account. If a separate monthly interest charge is debited to the bank account, post it straight to interest payable.

Under FRS 102 the interest charged in the accounts is the effective interest, which includes the spread of fees, so it can differ slightly from the cash interest on the statement. The difference adjusts the carrying amount of the loan.

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How is the loan split between current and long term liabilities?

The Companies Act balance sheet formats show “Bank loans and overdrafts” both under creditors falling due within one year and under creditors falling due after more than one year (SI 2008/409, Schedule 1, Format 1, items E.1 and H.1). FRS 102 paragraph 4.7 sets the test: a creditor is due within one year when the entity does not have an unconditional right, at the end of the reporting period, to defer settlement for at least 12 months after the reporting date. It gives the example of a lender who, exercising all available options and rights, could require repayment within 12 months.

That has three practical consequences:

the capital repayments due in the next 12 months are shown as current, and only the remainder as long term;
an overdraft or any loan repayable on demand is entirely within one year, whatever the parties expect to happen;
if a covenant breach at the reporting date lets the bank call in the loan, the whole balance becomes current unless the business already had an unconditional right to defer at that date.

Most bookkeeping systems hold one loan account. The split is then made by a year end journal, debit loan (long term) and credit loan (due within one year), reversed on the first day of the next year.

What does a full example look like?

Illustration only. A company with a 31 March year end borrows £60,000 on 1 April. The loan is repaid over five years with monthly capital repayments of £1,000 plus interest. The bank deducts an arrangement fee of £1,200 from the advance, so £58,800 reaches the bank account.

Drawdown. Debit bank £58,800, credit loan £58,800 (the £60,000 owed less the £1,200 fee).
Each month. Debit loan £1,000, debit interest payable with that month’s interest, credit bank with the total.
Fee. Under FRS 102 the fee is released through the effective interest calculation. Under FRS 105, if the fee is material, it is released on a straight line basis at £240 a year (£1,200 over five years): debit interest payable £240, credit loan £240.

After 12 repayments the contractual capital owed is £48,000. Ignoring the unamortised fee, £12,000 is shown as due within one year and £36,000 as due after more than one year. If March’s interest is charged by the bank in April, it is accrued at 31 March.

How is loan interest treated for tax?

Companies. Interest and fees on a company’s borrowings fall under the loan relationships rules. Section 307 of the Corporation Tax Act 2009 says the amounts brought into account are generally those recognised in profit or loss under generally accepted accounting practice, so the effective interest figure in the accounts is normally the tax deduction. Very large borrowers may also meet the corporate interest restriction, but a group’s interest capacity is never less than the de minimis amount of £2 million for a 12 month period (section 392 of the Taxation (International and Other Provisions) Act 2010), so it rarely touches owner managed companies.

Sole traders and partnerships. GOV.UK lists interest on bank and business loans as allowable financial costs, while repayments of loans, overdrafts or finance arrangements are not deductible. Interest on money borrowed for private purposes is not a business expense; see interest and bank charges for sole traders.

VAT. Lending money is exempt. VAT Notice 701/49 says the charge for a loan or credit is usually described as interest and the supply is exempt, so there is no VAT to reclaim on interest or on the capital repaid.

What about loans from directors or shareholders?

A loan from a director is recorded in the same way, usually through the director’s loan account. Such loans are often interest free or below market rate. FRS 102 paragraph 11.13 normally requires a below market loan to be measured at present value, but paragraph 11.13A(a) lets a small entity measure a loan from a director’s close family group, where that group includes at least one shareholder, at transaction price. Many director loans have no fixed repayment date, which under paragraph 4.7 makes them due within one year. See directors’ loans under FRS 102 and interest on loans to your company.

What mistakes come up most often?

Posting the whole instalment to interest, which overstates expenses and leaves the loan balance unchanged on the balance sheet.
Posting the whole instalment to the loan, which understates interest and leaves the loan lower than the lender’s statement.
Not splitting the balance between due within one year and due after more than one year.
Netting an overdraft against a positive bank balance elsewhere. FRS 102 paragraph 11.38A allows offset only where there is a legally enforceable right to set off and an intention to settle net or simultaneously.
Writing off a material arrangement fee at once instead of spreading it.
Claiming tax relief on capital repayments, which are never deductible.

Solar Protect provides tax investigation insurance for businesses and fee protection schemes for accountancy practices. Read how our cover works or get a quote.

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Sources

Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.