If you’re in a weird or difficult spot you might be thinking of taking a shareholder loan from your company, but that can be very tricky. You don’t pay taxes on a loan of money, so the IRS will scrutinize shareholder loans to make sure they aren’t some form of compensation.
Here are the things you need to be exceedingly careful about:
- The fewer shareholders, the more suspicious a loan looks. If you’re the sole proprietor, the IRS is more likely to believe it’s just compensation than if you had to get a bunch of other people to sign off on it as a loan. If you’re the only shareholder out of a handful that got the loan though, that could be evidence that it is a loan.
- How detailed are the terms? Did you actually take the time to write out a formal promissory note, because that’s generally a good sign that something is a loan. Did you pledge any security? Did you figure out a payment or maturity date, and is there interest on it?
- Are you making timely payments? Assuming that by the time the IRS comes knocking it’s been at least a few months, perhaps even a few years, have you been paying the loan back by the terms? If the payments are regular, have you missed any of them?
- Other compensation for your work. The IRS will also ask if you’re paid fair compensation for your work for the company, or if the company is paying dividends. That’s to make sure that the loan isn’t an attempt to get around paying you for something that you should be getting fair compensation for.
We’re happy to help you figure out the best way to structure shareholder loans to keep you out of trouble. Yes, the addition of an accountant to the mix is also going to help you withstand IRS scrutiny.