
Division 7A Explained: What Business Owners Need to Know About Private Company Loans
What Is Division 7A?
Division 7A is a set of tax rules designed to prevent private companies from making tax-free distributions of profits to shareholders or their associates in the form of loans, payments, or debt forgiveness.
If a company provides a loan or financial benefit to a shareholder (or their associate) without proper structuring, the ATO may classify it as an unfranked dividend, meaning it could be subject to personal income tax at the shareholder’s marginal tax rate.
This is a crucial area of tax compliance for business owners who operate through a company structure and take money out of the company for personal use.
You can read the ATO’s official guidance on Division 7A here.
How Does Division 7A Apply?
Division 7A applies when a private company provides any of the following to a shareholder or their associate (e.g., spouse, children, related trusts, or businesses):
- A loan – Money is withdrawn from the company without a proper loan agreement.
- A payment – The company pays personal expenses for the shareholder or their associate.
- Debt forgiveness – A shareholder or associate owes the company money, and the company forgives the debt.
What Happens If You Breach Division 7A?
If Division 7A applies and you fail to comply, the ATO will deem the loan or benefit as an unfranked dividend, and:
🚨 The recipient must include the full amount as taxable income in their personal tax return.
🚨 There are no franking credits to offset tax payable.
🚨 The company cannot claim a tax deduction for the amount.
🚨 The ATO may apply penalties and interest for failing to follow Division 7A rules.
Basically, bad news for all parties and definitely something to be avoided.
How to Avoid Division 7A Issues
To prevent the unintended tax bill, there are a few ways business owners can comply with Division 7A rules when taking money from their company:
1. Enter a Compliant Loan Agreement
- If the company provides a loan to a shareholder or associate, it must be documented properly under a Division 7A loan agreement.
- The agreement must include:
- Minimum annual repayments.
- A maximum loan term (7 years for unsecured loans, 25 years if secured against property).
- An interest rate that meets the ATO benchmark interest rate.
- This interest is technically income to the Company, this means the Company will need to pay tax on it
2. Repay the Loan Before the Lodgment Date
- If the loan is repaid before the company lodges its tax return, Division 7A does not apply.
3. Declare It as a Dividend
- Instead of a loan, the company can declare a franked dividend, and instead of taking the funds, the shareholder will opt to offset this dividend declared against the amount taken
- This needs to be handled carefully and the correct documentation is put in place to evidence that the amounts taken was intended to be a dividend.
4. Pay a Wage
- Instead of a loan, the company can pay a wage with the net amount of the wage equal to the funds taken.
- Things to consider here are the following:
- Wages need to be commercially justifiable
- Wages attract superannuation and other payroll costs
Key Takeaways for Business Owners
✅ If you take money from your company, be careful – it could trigger a Division 7A tax issue.
✅ Consult an accountant before withdrawing significant sums of money from your company or at the very least, before end of the financial year in which you took the funds
✅ Plan out your drawings, don’t treat your Company like a ATM, it’s not just bad for budgeting but you could get caught out with a big tax issue
✅Track your drawings so you have a clear idea of how much you are taking from the Company and what the Div7a problem may be.
We hope you’re enjoying our blog, just a note though. The information provided here is intended for general informational and educational purposes only. While we aim for accuracy, we can’t guarantee that this content will apply to your specific situation—every business owner’s circumstances are unique.
This blog is not a substitute for personalized advice from a qualified accountant, tax advisor, or any other professional. If you have questions specific to your individual circumstances, we strongly recommend consulting a professional for tailored advice.