If you are a business owner and want to borrow money from your company, then you probably already know that you should enter the loan as a “shareholder loan” in your books. Although, if your tax return is audited, the IRS will scrutinize your loan to make sure it’s not really dividends or disguised wages that are taxable income. When structuring the arrangement of the loan it is useful to know what the IRS may looking for if there is an audit.
What do you need to know before taking a loan from your company?
How does the IRS determine whether it’s a loan versus dividends?
- Your relationship to the company is the first thing the IRS will look at. If you are one of several shareholders and no other shareholders received payments similar to your payment, this would suggest that it might be a genuine loan. However, if you are the sole shareholder and have full control over the business earnings, this may weaken your case that the loan is genuine.
- The IRS will also be looking at the details of the loan. For instance:
- Did you sign a formal promissory note?
- Did you put up any security against the loan?
- Does the loan have a specific maturity date or repayment schedule?
- What is the interest rate? Have you missed any payments?
- If you missed payments, has the company tried to collect them?
It will appear to the IRS to be a more of a genuine debt if the terms of the loan are more businesslike.
There are other factors that the IRS will also consider. For example:
- Is your company paying you a salary that is in accordance to the job you perform?
- Has the company paid dividends or is this the only payment to shareholders?
- How is the size of the loan compared to the company profits?
Depending on all of these factors, the IRS may or may not try to tax you on the “loan”. The loan should withstand IRS scrutiny if you paid attention to the loan details.
