One of the more common transactions that a small business owner considers is a transfer of the owner’s personal car to the business. Such a transfer makes it easier to take certain deductions related to use of the vehicle easier, and so it should certainly be considered. However, it is important to know what the effects of the transfer are on your business’s bookkeeping. In particular, these effects differ depending on whether the car is subject to a loan and whether the owner wants to transfer that loan to the business.
If the car is not subject to an auto loan, or if the owner does not want to transfer the loan to the business, the bookkeeping behind the transfer of the car is rather simple. There is a credit to shareholders’ equity or additional paid-in capital, increasing the owner’s stock basis, and there is a debit to a fixed asset account to recognize the receipt of the vehicle. This is similar to what would be recorded when the owner contributed cash or other business assets. However, it’s important to be careful with the amount of this debit and credit. As a general rule, fixed assets are recorded at and depreciated from cost. For this reason, if a business owner personallybuys a car for business purposes at $20,000 and simply transfers that car into his business, the bookkeeping entry looks like:
Debit: Car $20,000
Credit: APIC $20,000
However, when assets are converted from personal to business use, they are depreciated not from cost but from the lower of adjusted basis (which is generally cost, for personally held assets) and fair market value at the date of conversion.
This means that if a business owner bought a car for $20,000, but decided to convert it to business use and simultaneously transfer it into his business when it was worth $15,000, the entry would be similar to:
Debit: Car $15,000
Credit: APIC $15,000
If the owner transfers his auto loan to the corporation along with the vehicle, the entry involves crediting a liability to recognize the loan. Furthermore, the entry generally increases APIC by the difference between the car value and the loan value. So if the previously discussed rules have led to transferring the car at a value of $15,000, and the loan is worth $11,000, the entry is:
Debit: Car $15,000
Credit: Loan $11,000
Credit: APIC $4,000
As a rule, this transfer of a liability has no tax effects to the business owner as long as he owns over 80% of the business after the transfer. Furthermore, the transferor of the liability (the business owner) does not have to be relieved of the liability for it to be considered transferred – the transferee (the business) merely has to agree to pay the liability.
However, if the loan value is greater than the car value to be placed in the bookkeeping entry, APIC does not decrease. Instead, the owner would recognize a taxable gain for the amount that the loan value exceeds the car value. For instance, if the car is transferred at $9,000 and the loan at $11,000:
Debit: Car $9,000
Credit: Taxable Distribution $2,000
Credit: Loan $11,000
In addition, if the transfer of the liability is not made for business reasons or is made simply to avoid income tax, the full amount of the liability is treated as a taxable gain to the owner.
These bookkeeping treatments are not specific to cars. Any asset which is converted to business use or is transferred into a business is treated as the car was above.
For instance, assume that a business owner buys a condominium as a primary residence for $200,000. He then decides to convert that personal residence into an office for his business. At the time of conversion, the condo’s fair market value is $180,000. As a result, the depreciable basis of the office is not $200,000, but only $180,000. This treatment means that a loss in the fair market value of a personal residence cannot be transferred into a business and deducted – instead, any loss that occurs before conversion to business use remains nondeductible. However, if a business owner must sell his home at a loss, he should consider selling his home to his business, and then having the business sell the home to the eventual buyer. This transfer to the business does not allow the deduction of the loss in fair market value, but does allow deduction of sales expenses like real estate commissions and closing costs.
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