Lending money to your own LLC

Can I Lend Money to My LLC?

Many small business owners need help funding their business when they are starting out, growing, or experiencing cash flow problems. They may ask, “Can I make a loan to my LLC?” The answer is often yes: Entrepreneurs may be able to use their own money to found a business or help keep their businesses afloat. There are two ways to do this:

• Owner contributions or
• Owner loans

Each method of funding your LLC has pros and cons. 

In most cases, it’s legal to lend money to your own LLC, but there are important tax implications and ownership considerations that should be addressed. 

If you want to lend money to your business, think it through carefully and talk with your tax and legal advisors before deciding which approach is best. This is especially important when you operate your business through a legal entity like an LLC (as opposed to a sole proprietorship). 

Before personally lending funds to your LLC, consider other small business loan options, like those from online lenders, banks, or credit unions. A 0% APR business credit card can also be a viable option for a new business, or one that needs short-term financing. Not only will a loan from a lender or card issuer clearly be considered a loan (and not an equity contribution), small business loans that are paid on time can help your business build good business credit scores. Comparing other types of loans can help you decide what’s the best move for your LLC.

This information is for educational purposes only. Be sure to consult tax and legal professionals for advice relevant to your situation.

Can an Individual Give an Unsecured Loan to a Company?

Unless your operating agreement has restrictions on loans from members, generally a member of an LLC can give an unsecured loan to their company, as can a third-party who’s not involved in the business. 

Before we get into more details, let’s review briefly how LLCs work. An LLC is a separate legal entity. It can have one member (single-member LLC) or more than one member. 

A single-member LLC is automatically treated as a disregarded entity by the IRS, unless it files paperwork with the IRS electing to be treated as a corporation. Income and expenses are reported on the owner’s personal tax returns. 

Some single-member LLCs choose to file as an S corporation or even a corporation for a variety of reasons. 

An LLC with two or more members is automatically treated as a partnership by the IRS, unless it files with the IRS to be treated as a corporation. 

While lending money to your own business can be fairly simple, remember you are loaning money to a separate legal entity— the LLC— which is not the same as loaning money to a friend or family member. 

Loans to the LLC may be treated as bona fide loans, or as contributed capital (or “equity contributions”). These each have different implications when it comes to taxes and even ownership. 

If you truly want to lend money to your business, you’ll want to ensure the loan is treated as a legitimate third-party debt (and not as a capital contribution). You’ll need a written loan agreement (promissory note), including the full loan amount, repayment terms, and reasonable interest rates. There have been some high-profile cases in Tax Court where the Internal Revenue Service has argued the business did not treat a loan as a loan, and the Tax Court ruled against the taxpayer, resulting in additional taxes owed. . 

If you are the sole member of a single-member LLC you call the shots on how your business operates. This means you have less concerns about whether providing funds to your LLC will affect your ownership. 

If you operate as anything other than a single-member LLC, though, loans or contributions could affect ownership. You may want to create an operating agreement to keep members from lending money to the LLC to avoid certain tax and ownership complications, as well as simple misunderstandings among members.

If you’re wondering, “What about lending  to  my own C corp?” check out this Nav guide that explains more on tax consequences for personal loans to corporations.

What Are the Pros and Cons of Making Loans to Your Own Business?

There are several aspects of lending to your own business to consider before you make a personal loan to your LLC.

Can I Loan My Business Money and Charge Interest?

Likely, yes. (Though the interest rate should be in line with market rates.) Keep in mind, though, that if you earn interest from a loan to your business, you’ll report income from that interest on your personal tax return so it’s not necessarily a way to earn tax-free income.

There is a rule known as the “self charged interest rule,” that may affect tax treatment of your loan. It’s another reason why it’s important to talk with your CPA or tax professional. 

Again, it’s wise to consult with your tax and legal advisors to make sure you structure the loan properly and document it properly to ensure it is treated as a bona fide debt.

Tips From the Pros When Lending to Your Own LLC

When lending to your own LLC, it’s essential to approach the transaction with the same level of diligence and professionalism as you would with any other business venture. 

Here are some valuable tips from industry professionals to consider when lending to your own LLC:

Make sure your LLC can afford monthly payments

Before lending to your LLC, analyze its financial position and how much money the LLC needs to borrow. Look at its cash flow, assets, liabilities, and overall financial stability. Be realistic about whether or not the LLC can manage the repayment terms, taking into account potential market fluctuations or changes in the business environment that could impact its financial standing.

Formalize the agreement

Most professionals would agree that the most important part of making a loan to an LLC that you founded is this: Document everything. 

Treat the loan with the same formality as a bank loan. Create a formal loan agreement that outlines the loan terms, conditions, and repayment schedule. Clearly define the interest rate, collateral (if applicable), and any penalties for late payments to establish a structured and professional lending arrangement.

This may prove essential for the IRS (tax purposes) and for legal reasons.

Separate personal and business finances

Maintain a clear distinction between your personal finances and those of the business entity to maintain liability protection. Avoid commingling funds and make sure all transactions are appropriately documented and recorded. This practice not only protects your personal assets but also upholds the integrity of your business’s financial records.

Consult legal and financial advisors

Seek guidance from legal and financial advisors who specialize in business transactions and lending. They can provide valuable insights on structuring the loan to comply with legal requirements, tax implications, and regulatory standards. Professional advice can help mitigate potential risks and make sure that the lending process sticks to industry best practices and regulatory guidelines.

Establish a realistic repayment plan

Set a realistic repayment plan that fits with what your LLC can actually afford. Consider the company’s projected cash flow and revenue streams when determining the repayment schedule to avoid straining the business’s financial resources. 

Avoid This Hazard When Lending to Your Own Limited Liability Company

One key hazard to avoid when lending money to your own LLC is the failure to establish clear separation between personal and business finances. 

Mixing funds can jeopardize the liability protection typically associated with an LLC, potentially exposing personal assets to business liabilities. Failing to maintain proper documentation, such as a formal loan agreement and regular interest payments at market rates, can raise concerns about the legitimacy of the transaction in the eyes of tax authorities and creditors. 

To prevent these risks, maintain strict financial separation, stick to formal lending procedures, and consult with legal and financial professionals to make sure you stay compliant.

What Is the Difference Between Contributed Capital and a Business Loan?

There are a few differences between contributed capital and a business loan or LLC loan. Contributed capital is a trade for shares or stock in a business, as opposed to an outright loan. In this case, an owner or stakeholder might get more ownership interest for buying into the company or more equity. When someone makes a capital contribution, they expect to get their money back through dividends as the company grows and makes money. 

A business loan is money that a company takes from a lender and will have to repay. Commercial loans or bank loans are common ways that small businesses get more money to start or grow their businesses. A company may consider taking personal loans from individuals, too, especially when a new business is just starting out or if they don’t qualify for more traditional small business loans or other business financing. One way to increase your business’s chance of qualifying for traditional loans and other financing is to learn how to establish business credit and improve your credit score over time. 

Are LLC Loans Tax Deductible?

With an LLC, money flows through to the member’s personal tax returns. How it is taxed ultimately depends on the member’s individual income taxes, personal tax bracket, etc.

Is It Legal To Borrow Money From Your Own Company?

What if, instead of lending money to your LLC you want to borrow from the LLC? If you do not structure the loan properly, or adhere to a reasonable repayment schedule, repayments could be treated as distributions which can mean they will be treated as taxable gains, rather than as interest payments.

How Do LLC Owners Avoid Overpaying in Taxes?

The best way to avoid overpaying in taxes as an LLC owner is find the best tax deductions for your business. Work with your tax professional or accounting software to identify ways to save money on taxes, such as:

• Writing off your home office or business equipment
• Finding a way to lower your tax rate
• Spend more money strategically in your business
• Defer tax payments by paying into retirement funds

If you’re looking for ways to increase your business’s cash flow through business financing like a business line of credit, business credit cards, or small business loans, Nav can help you find the right financing for your business today. See your best recommendations with Nav today.

FAQs

• What do I tell the IRS when I loan to my own LLC?
  LLCs are considered pass-through entities by the IRS, which means your business taxes pass through to your personal returns. When you file your business taxes, the money is considered  a loan. Interest gets deducted as a business expense.
• Can I pay less in taxes by lending to my own LLC?
  Lending to your own LLC can potentially offer tax advantages such as the ability to generate interest income personally, while the interest paid by the LLC could be tax-deductible, thus reducing the LLC’s taxable income. However, it’s crucial to structure the loan appropriately, ensuring it reflects market interest rates to avoid potential conflicts of interest.
• Can an LLC write off groceries?
  If you buy groceries for a business purpose, such as meals to entertain clients or snacks for employees in your office, you may be able to write off groceries as an LLC. However, if you’re just buying personal groceries, it’s not a tax deductible expense.
• Can my LLC pay my mortgage?
  It’s a bad idea to pay your personal mortgage or rent from your business bank account for tax purposes. As a business structure, it’s important for an LLC to be kept separate from any individual members to help maintain the corporate veil and keep members from being personally liable for business financing issues. You can pay yourself through a transfer or check out of your business bank account to your personal bank account and then use that money to pay for your mortgage. 
• Does an LLC Have Its Own Credit Score?
  Yes, an LLC can establish business credit.