Earnings are treated as received when a payment is made on
account of earnings (see
EIM42270).
A payment on account of earnings is not the same thing as a
loan.
A payment on account of earnings is a payment in respect of
which the employer has no right of recovery. There is a payment on
account of earnings when the employer agrees to pay the employee
money the employee has earned but which is not yet due for payment.
For example, where an employee is entitled to be paid a salary at
the end of each month, he or she will have earned half a month's
salary halfway through the month, but it will not be due for
payment until the end of it. One month, the employer may agree to
pay something on account halfway through the month that is not
repayable. This is a payment on account of earnings.
If an employer and employee make an agreement under which
the employer lends the employee money and the employee agrees to
repay it at a future date or dates, the amount in question is a
loan, not a payment on account of earnings. For example the Civil
Service removal scheme may allow a transferred member of staff to
draw an "advance of salary". Here the proper construction of the
arrangement is that the employee is getting a loan that is repaid
by instalments out of future salary payments. PAYE is applied when
the salary is paid. It does not apply when the advance is made.
The terms used to describe a payment do not decide its
treatment. You have to look at the substance of the matter.
Something described as an advance may be a loan or a payment on
account.
In Williams v Todd (60TC727) an Inspector of Taxes received
an interest-free advance from his employer to help him purchase a
new residence following a compulsory transfer. He claimed it was a
payment on account of earnings that should have been taxed under
PAYE. Walton J said:
"I do not consider that the advance can be truly called anything other than a loan. It is not a payment on account of [earnings] because it is not a part payment which cannot be recovered: on the contrary it is an express term of the advance that it is repayable on demand. I do not see that the advances fall within the scope of income to be assessed under the PAYE system" (page 736).
(There may be liability to tax on the benefit of an interest-free or cheap loan (see EIM26101onwards).
Directors very often draw money from the company during the
year, which is debited to their loan account and repaid at the end
of the year by crediting fees, or a dividend, voted or declared
after the end of the year. Until that time, and in the absence of
specific evidence to the contrary, the amounts drawn do not
actually belong to the director. The in-year drawings are not
payments on account of earnings for the purpose of Sections 18(1)
and 686(1).
The way in which directors become entitled to remuneration
is explained at
EIM42300.
