Owner Loans to Business

[mactoolsix]

We have a client (had, as he suddenly passed away last year) that made several loans to his two separate businesses (corporations). When he died, the businesses promptly went up in smoke, the loans are worthless and his wife has dissolved both businesses.

Two questions - can the loans be considered business bad debts by the wife?

Community property state, so we need to "step-down" the value of the loans prior to claiming them non-collectable, or would you consider them worthless upon his death?

Thanks for your ideas,
Mike

[TXEA]

Need a little more information:

Were the notes evidenced by written loan agreements with a stated interest rate?

Were payments made by the corporation to the shareholder during the term of the notes?

Was the corporation under-capitalized?

Regarding business bad debts, was the shareholder in the trade or business of lending money?

Another thing to consider is what will happen in the corporation tax wise if the loans are forgiven (debt forgiveness)

[mactoolsix]

Need a little more information:

1. Were the notes evidenced by written loan agreements with a stated interest rate?

2. Were payments made by the corporation to the shareholder during the term of the notes?

3. Was the corporation under-capitalized?

4.Regarding business bad debts, was the shareholder in the trade or business of lending money?

5. Another thing to consider is what will happen in the corporation tax wise if the loans are forgiven (debt forgiveness)

1. yes
2. no other shareholders - owner was 100% owner (w/spouse)
3. yes - neither really made money, thus the infusion of funds by a loan
4. No
5. COD, however little assets. Both have been dissolved

Thanks - Mike

[TXEA]

This is probably just a capital loss and not a business bad debt.- If the corp ever made payments, then it would possibly be a capital loss on a loan (3000 per year).

If the corporation was undercapitalized, and the terms of the loan were not adhered to, then it could be additional paid in capital from the shareholder. Thus, capital loss on the stock.

You mentioned the shareholder has died. You will need to check the value of the note as per the estate inventory. Community property issues would need to be considered if you are in a community property state.

I guess the corporation has a NOL that will offset the debt forgiveness.

[mactoolsix]

We have decided to not take these as a business bad debt - I feel they would be re-characterized to a capital contribution.

Thus no loss for the clients personal return for these - oh well . . .

Mike

[Nashville]

Also COD to wife

Wife has a loss in that a creditor cannot pay her.

At the same time she recognizes this loss, she would be obligated to issue 1099-C to corporation. So the corporation has
income for the exact same amount of money.

If corporation escapes having to claim income on the 1099-C by virtue of insolvency, I'm not sure whether wife could deduct
the loss...

Someone smarter than me (and that is most of y'all), please chime in...

[TXEA]

Good point Nashville. If the wife inherited 100% of the stock, then there is very likely a related party loss disallowance. However, this really seems to be a capital infusion to the corporation since it seems the terms of the loan were not adhered to by the corporation.