Is there any difference in whether I characterize my contributions to my (100% owned) S-Corporation as investments or loans? I kind of suspect there is, so the next question would be what the differences are and if one is automatically a better move.

Thanks!

Your question is clearly an important question that confronts all new business owners when they initially establish a new business. As an owner of a new business, you will certainly have to contribute some form of capital into your business in what is commonly referred to as an "infusion of capital" or a “capital contribution” that would provide the necessary working capital to operate a new business. The question that is of concern to all new small business owners is whether to consider this initial investment as capital contribution or as a loan has some important tax implications for each situation.

1. What are the possible tax consequences of classifying the investment as a Loan to your incorporated business?
If an owner of the business wishes to loan any money to their own business, then the owner should define the terms of the loan, including the repayment and the rate of interest on the loan. The interest paid to the owner on the debt is deductible to the corporation, and taxable to you the owner on your personal income tax return. However, the principle portion of the loan repayment return of principle is not taxable to you.

2. What are the tax consequences of classifying the capital infusion as an Investment into your Incorporated Business?
In this case, the funds are treated as a Capital Contribution that is reported on the Shareholders Equity Portion in the balance sheet of the corporation. Generally speaking, these amounts are not removed until the liquidation of the business. However, any withdrawals from the Capital account are treated as dividends and the owners would be subject to the prevailing applicable tax rate on dividends.

Most financial experts and CPA's suggest that a Owners treat capital infusion for a small corporation as both Capital Contribution and Loans to the Corporation. The Capital Contribution amount usually is around $1,000 to $1,500 with the balance being treated as a loan to the Corporation. I would suggest that you consult your CPA to determine the appropriate amounts based on your unique financial situation.

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