LLC reserves, comingling of funds

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LLC reserves, comingling of funds

Robin Hines
Investor · Orlando, FL · Member since 2016 · 44 posts · 85 votes

Ok, I'm a business novice and need input from those with experience in this area. Let's say that I have decided to put my rental properties into an LLC (or several llcs). Am I required to have all necessary cash reserves when I create the LLC? That is, what if I have, for the sake of argument, $10k in reserves for one of my newly created LLCs. After creating the LLC, let's say that some sort of emergency occurs with repair bill for $15k? Do I make a loan to the LLC from my personal funds? How does this work in practice?

One of the main sticking points for me with creating an LLC is the whole comingling of funds thing and what to do if you do not have adequate reserves if anything should come up. I know this is a basic question, but I haven't come across a post where this has been addressed. Any input you can provide is much appreciated.

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Brian Schmelzlen
Accountant · La Mesa, CA · Member since 2017 · 477 posts · 476 votes
8y

Hi Robin.

Definitely do not commingle funds, and by that I mean do not have all your personal and LLC funds going into and out of the same bank account. There is a legal concept called "piercing the corporate veil" (applies to LLCs also), and commingling funds is one of the surest ways to lose your liability protection.

You should have cash reserves when you create the LLC (again because the "piercing the corporate veil" concept), but that does not mean enough money to cover all unforeseeables. I tend to think 2 months of expected operating expenses is enough. You can always put in more money.

If you have $10k in reserves and due to unexpected repairs you need to put in $5k more, you can do so in 1 of 2 ways. You can either make a loan to the LLC as you suggested, in which case there should be a note, regular payments, and interest at least at AFR. Your other option is to make a capital contribution to the LLC. You would simply have the LLC book it as a contribution, eventually record it that way on your tax return, and you can always take the money back out as a distribution later.

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  • Brian Schmelzlen
    Accountant · La Mesa, CA · Member since 2017 · 477 posts · 476 votes
    8y

    Hi Robin.

    Definitely do not commingle funds, and by that I mean do not have all your personal and LLC funds going into and out of the same bank account. There is a legal concept called "piercing the corporate veil" (applies to LLCs also), and commingling funds is one of the surest ways to lose your liability protection.

    You should have cash reserves when you create the LLC (again because the "piercing the corporate veil" concept), but that does not mean enough money to cover all unforeseeables. I tend to think 2 months of expected operating expenses is enough. You can always put in more money.

    If you have $10k in reserves and due to unexpected repairs you need to put in $5k more, you can do so in 1 of 2 ways. You can either make a loan to the LLC as you suggested, in which case there should be a note, regular payments, and interest at least at AFR. Your other option is to make a capital contribution to the LLC. You would simply have the LLC book it as a contribution, eventually record it that way on your tax return, and you can always take the money back out as a distribution later.

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  • Basit SiddiqiBusiness Member
    Accountant · New York, NY · Member since 2015 · 8k+ posts · 3k+ votes
    8y

    @Robin Hines

    The important thing here is that the repairs should be paid by the LLC and not from your personal account.

    If you make a loan to the LLC - record the transaction as

    Cash - 5,000
       Loan from Shareholder - $5,000

    At this point the books show a loan from shareholder for $5,000. This will only disappear when you pay back the loan.

    The alternative is to make a contribution to the LLC for $5,000
    Cash - $5,000
        Contribution $5,000

    This will adjust your basis which will affect your gain/loss when you liquidate the LLC.

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  • Robin Hines
    OP
    Investor · Orlando, FL · Member since 2016 · 44 posts · 85 votes
    8y

    @Brian Schmelzlen @Basit Siddiqi

    Thank you so much for your feedback. So, basically what you're saying is, as long as there is documentation, the corporate veil stays in tact. One additional question, how formal does this need to be? That is, can there simply be a document outlining the terms of the loan? Could it simply say something like, $5000 loan at 0% interest to be paid within one year, or does it need to be more formal than that. Also, can you choose any interest rate you want (within reason)? Thanks again, for your responses!

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  • Bettina F.
    Investor · Post Falls, ID · Member since 2016 · 606 posts · 699 votes
    8y
    you could just record it as an owner's contribution in QuickBooks, or whatever book keeping system you are using.
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  • Brian Schmelzlen
    Accountant · La Mesa, CA · Member since 2017 · 477 posts · 476 votes
    8y
    It probably makes more sense to treat it as a contribution to capital. But to address your question, if you treat it as a loan there would have to be a signed note detailing the terms of the loan, regular payments, and interest. The interest would have to be at least at AFR (the applicable federal rate), which changes monthly. In your situation, again, it makes the most sense to treat it as a contribution to capital and as a distribution when you take the money back out of the LLC.
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