US Personal Tax Services: A Bad Loan to a UK Company

If you lent money to a UK trading company and the debt has gone bad, both tax authorities will eventually give you a loss — but not in the same year, not necessarily in the same amount, and not on the same evidence. Britain’s section 253 relief is elective, backdatable and forgiving. The US rule under section 166 is none of those things.

That asymmetry is the whole problem. Our US personal tax services practice sees this pattern repeatedly: an American resident in Britain backs a UK company — often their own, sometimes a friend’s — with a director’s loan or a private advance, the company fails, and the two claims land years apart with no relief for the tax paid in the other country. Jungle Tax prepares these returns on both sides, and the fix is almost always evidential rather than clever: proving when the debt died, to two different standards, long after the fact.

The short answer: two reliefs, two timetables

In the UK, TCGA 1992 section 253 treats an irrecoverable qualifying loan to a trader as though you had disposed of it for nothing. You get an allowable capital loss without any actual disposal, you claim it when you choose, and you may specify an earlier date up to two years back. In the US, a loan by a shareholder to their own company is usually a non-business bad debt under section 166(d): deductible only as a short-term capital loss, only when the debt is wholly worthless, and only in the precise year worthlessness occurred. There is no election, no partial claim, and no ability to move the year to suit you.

Read those two sentences together and you can see the trap. The UK lets you pick the year. The US fixes it. If you pick badly in the UK, the two losses fall in different tax years, and because a foreign tax credit requires income and tax to align in time and in category, you get no credit symmetry at all. The loss is real in both countries and relieved efficiently in neither.

What is section 253 relief for loans to traders?

Section 253 exists because a simple loan is not, in UK capital gains terms, an asset that produces an allowable loss when it fails. A straightforward debt is generally not a chargeable asset in the creditor’s hands, so its collapse produces nothing. Section 253 overrides that outcome for a defined class of commercial lending: money advanced to a trader, used in the trade, which has genuinely gone bad.

Where the conditions are satisfied and a claim is made, the lender is treated as having disposed of the outstanding principal for no consideration, generating an allowable capital loss of that amount. That loss then behaves like any other: set against chargeable gains of the year, with the unused balance carried forward indefinitely against later gains.

The qualifying loan conditions

• The borrower must have used the money wholly for the purposes of a trade. This is the condition that fails most often. Working capital, stock, wages and premises qualify. Money used to buy an investment property, to repay a shareholder, to fund a non-trading subsidiary or simply to sit on deposit does not. “Wholly” is exacting — a mixed-purpose advance is vulnerable in its entirety unless the tranches were separately documented and separately traced.
• The trade must not be one of money-lending. Lending to a lender is outside the relief.
• The loan must not be a debt on a security. If the debt is represented by a marketable or assignable instrument with the characteristics of a security, it sits in a different regime and section 253 does not apply. Loan notes issued on a sale, in particular, frequently fall on the wrong side of this line — a point that matters if the advance was documented as an instrument rather than a simple facility.
• The lender must not have assigned the right to recover. Selling or transferring the debt, even for a nominal sum, destroys the claim. So does a well-meaning transfer to a family company.
• The loan must not be between spouses or civil partners living together, nor between companies in the same group.
• The amount must not already have been relieved for income tax purposes. You cannot take the same loss twice.
• Interest does not qualify. Relief is confined to outstanding principal. Rolled-up unpaid interest, however commercially real, is outside the claim, which is why the loan account reconciliation matters so much.

Does the borrower still have to be UK resident?

This is where most published guidance is stale, and it matters to cross-border lenders more than to anyone else. Historically section 253(1) required the borrower to be resident in the United Kingdom. That residence condition was removed with effect from 24 January 2019. For loans made on or after that date the borrower’s tax residence is no longer a bar; for older loans the original condition remains relevant.

The practical consequence for an American in Britain is significant. A loan to a UK-incorporated but centrally-managed-from-abroad company — the sort of structure a mobile founder ends up with by accident — may now qualify where it previously would not. It also means guidance written before 2019, which still populates a good deal of the first page of search results, will tell you that you have no claim when you may well have one.

Why “wholly for the purposes of a trade” is the condition to evidence first

HMRC does not accept the purpose test on assertion. Where an advance was made informally — a transfer from a personal account to the company account during a cash crunch, with the paperwork promised and never produced — the claim depends entirely on what the company did with the money next. Bank statements showing the funds leaving the company to pay suppliers, payroll or rent within days of receipt are the strongest evidence available. Tribunals have refused claims outright where the lender could show the money went in but not what it was used for.

When has the loan actually “become irrecoverable”?

The statutory test is that the principal has become irrecoverable, and HMRC’s stated position is that this means there was no reasonable prospect of recovery at the date claimed, having regard to funds currently and potentially available to the borrower. Two features of that formulation defeat optimistic claims.

First, HMRC looks past the balance sheet. A company can be balance-sheet insolvent on a given date and still have a realistic route to repayment through a funding round, an asset sale or a recovering order book. A negative net asset position on 5 April is not, on its own, irrecoverability.

Second, and decisively for founders: while the borrower continues to trade, the starting presumption is that the loan remains recoverable. HMRC's guidance is explicit on the point (see CG65950 in the Capital Gains Manual). A company limping along, loss-making but still invoicing, is very difficult ground for a section 253 claim. The events that genuinely establish irrecoverability are usually formal: liquidation, administration, a striking-off, or a liquidator’s statement that unsecured creditors will receive nothing.

There is one narrow exception to the all-or-nothing rule. Where the borrower is in bankruptcy, receivership or liquidation and the officeholder has announced an anticipated dividend and indicated that no further distribution is likely, a claim for the balance can be made even though a fraction will be repaid. Outside that fact pattern, a partial claim is not available.

How do you make the section 253 claim, and can you backdate it?

The claim is made by the lender — not by a successor, not by an assignee, not by the company. In practice it is made in the capital gains pages of the self assessment return or in correspondence, and HMRC accepts any clear indication that relief is sought in respect of a specific irrecoverable amount as a valid notice of claim (CG65940). The loss arises at the date of the claim, and the qualifying conditions are tested by reference to the circumstances at that date.

The valuable feature, and the one with no US analogue, is backdating. The claim may specify an earlier date, provided that date falls within the two tax years before the year of claim and the loan was already irrecoverable at that earlier date. That is a genuine election: you can look at your realised gains across a three-year window and land the loss where it does most work.

For a cross-border lender, this is also the single most consequential decision in the whole exercise, and it should be taken with the US year in view. Which brings us to the harder half.

What about payments under a personal guarantee?

Founders rarely lend only in their own name. They also guarantee — a bank facility, an invoice discounting line, a property lease taken by the company. Section 253(4) extends relief to a guarantor who makes a payment under a guarantee of a qualifying loan, treating that payment as giving rise to an allowable loss.

The conditions broadly mirror the direct-lending rules: the underlying loan must itself have been a qualifying loan, the payment must actually have been made under the guarantee rather than voluntarily, and the guarantor’s right of recovery against the borrower (and against any co-guarantor) must have become irrecoverable. The last point is the one that catches people. Paying the bank does not by itself create the loss; you must also show that your resulting claim against the company, which the payment gives you, is worth nothing. A claim made by a guarantor must be made by the guarantor, and the same two-year backdating flexibility is available.

What if the loan is later recovered?

Relief is provisional in a way many lenders do not expect. If, after relief has been given, some or all of the amount is subsequently recovered — a liquidator finds assets, a director settles personally, a litigation claim succeeds — the recovery is treated as giving rise to a chargeable gain in the year of receipt, up to the amount of the relief previously allowed. It is not reopened as an amendment to the earlier year; it surfaces as a fresh gain.

That creates its own cross-border exposure: a UK chargeable gain on a recovery, arising in a year in which the US may see nothing at all (because a recovery of a previously deducted bad debt is governed by the US tax benefit rule and may be ordinary income, or may be excluded if no US benefit was obtained). The two outcomes must be modelled together, not sequentially.

The US side: section 166 and the non-business bad debt trap

US treatment diverges immediately and unhelpfully. Section 166 allows a deduction for a debt that becomes worthless, but it splits debts into two classes with radically different consequences.

Is it a bona fide debt at all?

Nothing happens under section 166 unless the advance was a bona fide debt: a valid, enforceable obligation to pay a fixed or determinable sum, entered into with an actual intention to create a debtor-creditor relationship. Where an owner puts money into their own company on a handshake, the IRS regularly argues the advance was a contribution to capital instead, and the courts weigh a long list of factors — whether there was a written note, a fixed maturity date, a stated interest rate actually accrued or paid, security, a repayment record, whether an unrelated lender would have advanced on those terms, and whether the company was thinly capitalised at the time.

This is not a technicality. If the advance is recharacterised as equity, section 166 is off the table entirely and you are instead in section 165(g) worthless securities territory — which has its own deemed-sale-on-the-last-day-of-the-year mechanics and its own proof burden. An American founder who documented the UK loan properly at the time has a materially better US outcome than one who did not, for identical economics.

Business or non-business? The dominant motive test

A business bad debt is deductible against ordinary income and may be written off for partial worthlessness. A non-business bad debt is deductible only as a short-term capital loss, only on total worthlessness. The distinction turns on the taxpayer’s dominant motive for making the loan, and the Supreme Court set a demanding standard: protecting an investment is not enough. Even where the lender is also an employee, the dominant motive must have been the protection of employment income rather than the protection of the shareholding — and where the salary is modest relative to the equity stake, that argument usually fails.

The realistic expectation for a founder or angel lending into their own or a backed company is therefore non-business treatment. Short-term capital loss, offset against capital gains, then against up to $3,000 of ordinary income per year, with the remainder carried forward indefinitely. A $400,000 loan that is genuinely gone can take a very long time to relieve if you have no gains.

Wholly worthless, in the precise year

Three hard edges follow, and each is the opposite of the UK rule:

• No partial worthlessness. A non-business bad debt must be totally worthless. A debt you expect to recover 10% on is not deductible at all until that 10% is resolved.
• No election as to year. The deduction belongs to the year worthlessness occurred as a question of fact, determined by identifiable events. You cannot move it forward because it suits, and you cannot defer it because you forgot.
• No backdating of a claim. Where the UK lets you nominate an earlier date within two years, the US requires you to amend the correct year — or, in a compliance catch-up, to file that year’s return correctly in the first place.

The reporting is prescriptive. A totally worthless non-business bad debt goes on Form 8949, Part I, line 1, as a short-term item: the debtor’s name and the words “bad debt statement attached” in column (a), your basis in column (e), and zero proceeds. The attached statement must describe the debt and amount, the date it became due, the debtor and your relationship to them, the efforts you made to collect, and why you concluded it was worthless. The IRS sets this out in Topic no. 453, with the fuller treatment in Publication 550 and the form itself at About Form 8949.

US versus UK, side by side

Feature	UK — TCGA 1992 s.253	US — IRC s.166 (non-business)
Character of the loss	Allowable capital loss (deemed disposal at nil)	Short-term capital loss
Is it elective?	Yes — claim when you choose	No — fixed to the year of worthlessness
Backdating	Up to two tax years before the year of claim	None; amend the correct year instead
Partial loss allowed?	No, save for an announced final dividend in insolvency	No, in any circumstances
Borrower must be trading?	Yes — money used wholly for a trade	Irrelevant to the deduction itself
Borrower residence	Condition removed for loans made from 24 Jan 2019	Not a condition
Interest / accrued but unpaid	Excluded; principal only	Excluded unless previously included in income
Offset against ordinary income	No — gains only, carried forward indefinitely	Yes, up to $3,000 a year; excess carried forward
Guarantee payments	Relieved under s.253(4)	Relievable, but subject to the same business / non-business split
Later recovery	Chargeable gain in the year of recovery	Tax benefit rule — income to the extent of prior benefit
Window to correct a missed claim	Ordinary claim and amendment time limits	Seven years under s.6511(d)(1)

The timing mismatch, and why there is no foreign tax credit to fix it

Here is the structural point that generalist pages on either side of the Atlantic never reach, because each only looks at one system.

A foreign tax credit relieves double taxation by matching foreign tax on an item of income against US tax on that same item, in the same year, in the same basket. A capital loss is not income. Relieving a loss in the UK in 2024/25 and the same loss in the US in 2023 does not produce a creditable position — it produces two isolated losses, each trapped in its own system, each offsetting whatever gains happen to exist in that jurisdiction in that year.

The consequence is that the UK backdating election is not a UK decision. If the US worthlessness year is, as a matter of fact, the year the liquidator reported nil to unsecured creditors, then the sensible UK claim date is the one that puts the UK loss against UK gains arising in a period where the US return also carries gains to absorb the US loss. Get that wrong and a client with a large UK gain in one year and a large US gain in another pays full tax in both, despite having lost the money once.

Three further US-side mechanics are routinely missed:

• Basis is in dollars, not sterling. Your US basis in the debt is the dollar cost of the funds you advanced, translated at the spot rate on the date of each advance. Where the loan was drawn down in tranches over two years of a moving GBP/USD rate, every tranche has its own basis. The sterling face value of the loan account is not the US number.
• Section 988 sits on top. A loan denominated in a currency other than your functional currency is a section 988 transaction, and exchange gain or loss on the principal is computed and characterised separately from the bad debt loss — generally as ordinary gain or loss rather than capital. In a bad debt case the practical effect is usually nil because nothing is repaid, but where there is a partial recovery, or where the debt is settled or restructured, a separate ordinary item can arise on the currency movement alone.
• The $3,000 ceiling is unforgiving. With no US capital gains to absorb it, a six-figure short-term capital loss is relieved at a few thousand dollars a year. Where a client has appreciated assets and a real commercial reason to realise gains, the year of worthlessness is the year that matters.

Proving worthlessness years later in a compliance catch-up

Most of these cases reach us the same way: the company failed some years ago, the UK position was handled or half-handled, and the US returns were never filed or never reflected the loss. The evidence question then becomes the whole engagement, because you are asking two authorities to accept a date that has already passed.

The file that succeeds contains, at minimum:

• The loan documentation as it existed at the time — note, facility letter, board minute, or in its absence the contemporaneous correspondence that shows an intention to lend rather than to subscribe.
• Bank evidence tracing each advance into the company and out again into trade expenditure, dated.
• Company filings: accounts showing the director’s loan account or creditor balance, the appointment of an officeholder, the striking-off notice.
• The officeholder’s reports, in particular any statement of anticipated dividend to unsecured creditors.
• Your own collection efforts — demand letters, a statutory demand, correspondence with the officeholder. The IRS statement specifically requires this, and its absence is a common reason for denial.
• A dated, reasoned worthlessness memorandum identifying the event relied on and why nothing recoverable remained after it.

The seven-year window most people do not know exists

There is one piece of US law that materially helps a late claim. The ordinary refund limitation period is three years from the due date of the return. For an overpayment attributable to a debt that became worthless under section 166 — or to a security that became worthless under section 165(g) — section 6511(d)(1) substitutes a seven-year period. In practice that means a worthless-debt year several returns back may still be correctable for refund when everything else about that year is closed. In a catch-up engagement that single provision is frequently the difference between recovering the loss and losing it permanently, and it is worth establishing the worthlessness year early for exactly that reason. Where the unfiled years are the issue rather than the loss itself, the route through IRS streamlined filing and the bad debt claim need to be sequenced together rather than run in parallel.

Debt is not equity: how this differs from a negligible value claim

It is worth being precise about the boundary, because the two claims are constantly confused and the paperwork for one will not support the other.

If you subscribed for shares in the UK company and those shares are now worthless, you are in negligible value territory: a claim under TCGA 1992 section 24 in the UK, and section 165(g) worthless securities in the US. We cover that fact pattern in detail in our guide to negligible value claims on worthless UK shares.

If you lent money to the company, you are here: section 253 in the UK and section 166 in the US. Many founders have done both — subscribed at incorporation and then propped the company up with loans — and in that case both claims run, on different conditions, with different dates, and with the ever-present risk that the IRS recharacterises the loan half as further equity and collapses it into the first claim. The two analyses share a file but not a conclusion.

A worked sequence

For an American resident in Britain whose loan to a UK trading company has failed, the order of work is:

• Fix the US year first. Identify the identifiable event that made the debt wholly worthless and evidence it. This date is a fact, not a choice, so everything else is built around it.
• Test bona fide debt status. If the documentation will not sustain a debt characterisation, move the analysis to section 165(g) before, not after, filing.
• Confirm the section 253 conditions — trade purpose, no security, no assignment, no connected-party bar, principal only — against the loan file.
• Choose the UK claim date within the permitted backdating window, selected to sit as close as the rules allow to the US worthlessness year and against real UK gains.
• Compute the dollar basis tranche by tranche, and identify any section 988 item separately.
• File both with matching, dated narratives. Two inconsistent accounts of when a company died is the fastest way to lose both claims.

The statute is at section 253 TCGA 1992, and HMRC’s full treatment runs from CG65930 onwards in the Capital Gains Manual. But the legislation is the easy part; the difficulty in a cross-border case is always the reconciliation of two irreconcilable timetables.

Speak to us before you claim

A failed loan to a UK company is one of the few situations where the order in which you file determines how much of the loss you actually keep. If you are a US citizen or green card holder in Britain with an irrecoverable advance to a trading company — your own or someone else’s — and particularly if there are unfiled US years sitting behind it, the analysis should be done once, across both systems, before anything is submitted. Our US-UK tax accountants prepare these returns for high-net-worth individuals and founders on both sides of the Atlantic. To review your position in confidence, contact our cross-border team and we will tell you plainly what can still be claimed and by when.