LLC Startup Costs Paid on a Personal Card: Books and Payback

How do I record startup costs I paid on my own card before the LLC had a bank account?

Enter each cost for the business in the LLC's books, dated the day you paid it, in the account for what it bought, and credit the person who paid. The bank account never saw the payment, but the business received what was bought. Publication 583 says the paid bills, invoices and receipts a business generates are what you record in your books. A cost paid before the LLC existed has one more step: see the section on costs paid before formation, below.

Choose the credit when you enter the cost. Owner contribution puts the money into the business; money taken out later is a draw. Due to owner records that the LLC owes you and will repay you. In a multi-member LLC, credit the member who paid, not the members as a group. See owner contribution or loan to your LLC.

Paying yourself back later: in a one-member LLC it is a draw, which is not deducted. A multi-member LLC can reimburse each member, within limits. Both are covered below.

A case is not simple if:

• more than one member paid and they want their money back;
• the costs include equipment or inventory;
• the business has not begun, or you cannot say when it did;
• the LLC elected to be taxed as a corporation, or a second member joined after you paid;
• a one-member LLC's formation costs together pass $5,000;
• you live outside the US, or paid from a foreign account or in another currency;
• the books are already running and these costs were left out or expensed.

Gather receipts and card statements, the date the LLC was formed, the operating agreement, a note of when business began, and a list of who paid what.

Which costs are startup costs, organizational costs, equipment or inventory?

Costs fall into five groups, and only two get the $5,000 first-year amount: start-up costs and organizational costs. Which group a cost joins decides how and when it is recovered.

A one-member LLC has no organizational group. The Form 4562 instructions list organizational costs only for corporations (section 248) and partnerships (section 709). Amounts paid to form a disregarded entity must be capitalized (26 CFR 1.263(a)-5(a)(6)) unless they total $5,000 or less together (paragraph (d)(3)). Costs that escape join the start-up group and its one limit (section 195(c)(1)). Above that total none escapes, and the regulation does not say how a capitalized formation cost is recovered. Keep formation costs in their own account so the preparer can apply this; the rules are in startup costs for an LLC or sole proprietor.

Which account takes the LLC registration fee: what do I debit and credit?

Debit an asset account for organization costs (formation costs, for a one-member LLC) and credit the owner who paid. For tax these costs are capitalized, not deducted when paid, and any deduction starts the year business begins (Publication 583; section 195(a); section 709(a)). Books kept for a lender or investor may expense them when paid, and the tax return still follows these rules, so ask the preparer which basis your books use.

Start-up costs go in a Start-up costs account the same way. Each year, the first included, post what the return deducts: debit Amortization expense, credit the cost account (or an accumulated amortization account).

Do not deduct these costs in full as ordinary business expenses. Once two or more returns have used that method, correcting it is a change in accounting method (26 CFR 1.195-1 and 26 CFR 1.709-1, Example 3 in each). The deduction rules are in startup costs for an LLC or sole proprietor.

Single-member LLC: do I have to pay myself back, and is repayment taxable?

No. Paying yourself back is a bookkeeping choice, and while the LLC stays disregarded it is not a separate taxable event. A one-member LLC that has not elected corporate treatment is disregarded: the IRS treats the owner and the LLC as one taxpayer, and the LLC's activity is reported on the owner's own return, usually Schedule C (IRS). Money moving from the LLC's account to the owner is therefore a withdrawal, not a payment between two taxpayers.

Record it as an owner's draw: debit Owner's draw, credit Bank. If you credited Due to owner earlier, debit that balance instead. Do not run the payback through payroll or an expense account: a sole proprietor cannot deduct personal withdrawals and is not an employee of the business (Publication 334). Repaying yourself changes the equity accounts, not the amount deducted. See recording an owner's draw.

Multi-member LLC: can the LLC reimburse a member for costs paid before it existed?

Yes. The LLC records what it owes each member and repays against receipts, mindful of one tax rule, the disguised-sale rule. An LLC with two or more members is a partnership for federal tax unless it elects otherwise (IRS).

The disguised-sale rule can treat money paid back to a member as the price of a sale. When a member transfers property to a partnership and the partnership pays that member money within two years, in either order, the transfers are presumed to be a sale unless the facts clearly show otherwise (section 707(a)(2)(B); 26 CFR 1.707-3; Publication 541). The regulation's sale test starts from a transfer of property other than money (26 CFR 1.707-3(b)(1)), so a member who paid only cash fees may not meet its starting point. It matters when a member also contributes equipment, inventory or other property, so look at each member's full set of transfers.

A carve-out covers formation costs. A payment to a member is not treated as part of a sale to the extent it reimburses, and does not exceed, capital expenditures the member incurred for partnership organization and syndication costs in the two years before the member's transfer to the LLC (26 CFR 1.707-4(d)). If a member also transfers property, stay inside it:

• Reimburse organization or syndication costs: filing fees, drafting the operating agreement, offering papers. The carve-out does not name other start-up costs, such as advertising.
• Count back two years from the date the member contributes to the LLC. Costs paid earlier fall outside it.
• Pay no more than the member paid.
• Treat equipment or inventory separately. Capital expenditures on property the member transfers have a narrower carve-out with an extra cap tied to the property's value.

A member who contributes property, gets money back from the LLC within two years (before or after), and treats it as something other than a sale must attach Form 8275 or a statement to their return. The regulation's exceptions are guaranteed payments for capital, reasonable preferred returns and operating cash flow distributions; a formation-cost reimbursement is not one of them (26 CFR 1.707-3(c)(2); 26 CFR 1.707-8; Publication 541). If several members contribute property under one plan, the LLC may make the disclosure for all of them.

In the LLC's books, credit the member who paid: Due to member if the LLC will repay, or that member's capital account (the running balance of money the member put in and took out) if not. Repaying is debit Due to member, credit Bank. Before paying, put the decision in writing: the operating agreement or a signed member consent listing each cost, who paid, the date and the amount, with the receipts. Whether to reimburse or treat a payment as a capital contribution, and costs members pay after the LLC exists, are in partner-paid LLC expenses.

In which year are startup and organizational costs deducted?

In the year the business begins, not the year you paid. Nothing is deducted before then. In that year, start-up costs are allowed the lesser of their total or $5,000, reduced dollar for dollar by the amount the total exceeds $50,000, but not below zero. Organizational costs follow the same rule with $5,000 and $50,000, and the two groups are counted separately. The rest is deducted evenly over 180 months, starting with the month business begins (section 195(b); section 709(b); Publication 583).

The IRS treats the taxpayer as having made the election, with no statement needed; in a multi-member LLC the taxpayer is the LLC, not each member (section 703(b)). To capitalize instead, say so on a return filed on time, extensions included, for the year business begins. Either choice is irrevocable (26 CFR 1.195-1; 26 CFR 1.709-1; Form 4562 instructions). Where it is reported, and the rules in depth, are in startup costs for an LLC or sole proprietor.

When business begins is a question of fact. For a partnership, signing the operating agreement is not enough, and acquiring the operating assets the business needs may be (26 CFR 1.709-2). For start-up costs, section 195(c) leaves the date to regulations and 26 CFR 1.195-1 does not define it. A wrong year is costly to undo: once amortization has run on two or more returns, changing the start year is a change in accounting method.

Do costs paid before the LLC was formed differ from costs paid after formation but before the bank account?

Not in how they are deducted: the deduction follows when business begins, not when the LLC was formed or its account opened.

• Paid before formation. No LLC existed on the day you paid, so you incurred the cost yourself. A partnership's organizational costs may be incurred from a reasonable time before it begins business, so a pre-formation legal fee can still count (26 CFR 1.709-2). The regulation does not say how a pre-formation payment becomes the LLC's cost, so record the route you chose: reimbursed, owed, or contributed.
• Paid after formation, before the account. The LLC exists and the cost is its own, paid with personal funds. The entries are the same.
• Paid on or after the day business begins. Start-up costs are expenses before operations begin (Publication 583; section 195(c)), so a later cost is generally not one. Organizational costs of an LLC taxed as a partnership can still qualify if incurred by the due date, without extensions, of the partnership return for the year business begins (26 CFR 1.709-2). Equipment and inventory follow their own rules. Other later costs, such as supplies or software, are operating expenses, deductible if ordinary and necessary (Publication 583).

Paying LLC costs personally also mixes personal and business money; Publication 583 says to keep the two accounts separate. See a business bank account for an LLC and fixing mixed business and personal funds.

What if the business never opens?

Short answer: the statute and IRS publications on this page do not say how the costs of a business that never began are treated, so keep them on the books and do not deduct them on assumption. The first-year deduction and the amortization both run from the year business begins.

If the business began and was later completely disposed of, the unamortized balance may be deducted to the extent allowed under section 165 (section 195(b)(2)). For an LLC taxed as a partnership that is liquidated, the same applies to organizational costs, but capitalized syndication costs get no deduction (section 709(b); 26 CFR 1.709-1). For an individual, section 165 reaches losses in a trade or business and in a transaction entered into for profit (section 165(c)). Whether a business that never began meets that test turns on the facts and is not settled by the statute. Keep the books, receipts and a note of when and why the plan stopped, and have a preparer decide.

What records prove the costs?

Keep a receipt or invoice for each cost showing what was bought, the amount and the payee, and the card statement that shows the payment. Publication 583 says a credit card statement should show the amount charged, the payee and the transaction date, and that proof of payment alone does not establish a deduction: keep the invoice or sales slip that shows you incurred the cost.

• A list of each cost: date, payee, what it bought, its group, and who paid.
• The date the LLC was formed, and evidence of the date business began, such as the first sale.
• A written record of whether each payment was contributed, owed or reimbursed, and proof of each repayment.

Records that support a deduction are kept until the period of limitations for the return that claims it runs out, generally 3 years after filing. Records for equipment are kept until the period of limitations runs out for the year you dispose of it (Publication 583, Table 3). Amortization is claimed on one return after another for up to 180 months, so keep the support for these costs long after the first year. If receipts are missing, see lost receipts for business expenses.

Example

These examples are illustrative; figures are in US dollars.

Single-member LLC: filing fee and ads on a personal card

In November of Year 1, a consultant pays a $500 state filing fee and $1,500 of pre-opening advertising on a personal card, before she has an LLC bank account. The books debit Formation costs $500 and Start-up costs $1,500 and credit Owner contribution $2,000, each dated the day she paid. Assume the fee is her only formation cost and her business begins in March of Year 2, when she bills her first client.

• Year 1: nothing is deducted, because business has not begun.
• Year 2: the $500 fee is under the $5,000 limit for a one-member LLC's formation costs, so it joins the start-up group. The group totals $2,000, under its own $5,000 limit, so all of it is deducted. In May she moves $2,000 from the LLC account to her personal account. The books show a $2,000 draw: not income, not an expense, and no change to the deduction.

Three-member LLC: reimbursing members

Three members each pay $4,000 of legal and filing costs to form the LLC, $12,000 in all, in the two months before it exists. The LLC debits Organization costs $12,000 and credits Due to member $4,000 for each. Six months after formation it pays each member $4,000 against the receipts, under a signed member consent that lists the costs. In this example all three put in cash only, so the sale test would not start under the regulation. Had one also contributed equipment, the payments would need to fit the carve-out.

The LLC begins business in July of Year 2. For Year 2 it deducts $5,000, plus six months of the remaining $7,000 spread over 180 months, about $233, or about $5,233 in all.

Mixed costs: inventory and a laptop

The owner of a single-member LLC buys $3,000 of inventory, a $900 laptop and $1,200 of pre-opening ads on a personal card. The books debit Inventory $3,000, Equipment $900 and Start-up costs $1,200, and credit Owner contribution $5,100. Only the $1,200 is a start-up cost. The inventory becomes cost of goods sold as it is sold. The laptop is depreciated, or deducted under section 179 if elected, starting when it is placed in service for the business, not when it is bought (Publication 946). If business has not begun by year end, none of the $1,200 is deducted yet.

Different for you?

• Several members paid and want repayment: the reimbursement limits apply before the LLC pays, and the entries and written record have to match them. Get bookkeeping help to set both up.
• The costs include equipment or inventory, or you owned them before: a member who also contributes property brings the two-year sale rule into play. See putting personal assets into your LLC and starting inventory you already owned, and get bookkeeping help to book each cost in its right group.
• The business has not begun, or you cannot say when it did: the start date sets the year of the deduction, and the choice to amortize or capitalize cannot be undone once made. Have a preparer settle the date before the first return, and get bookkeeping help to keep the costs in the right accounts until then.
• The books are running and these costs were left out or expensed: see catching up on overdue books and get bookkeeping help.
• A one-member LLC's formation costs pass $5,000: none of them is a start-up cost, and the regulation does not say how they are recovered. Get bookkeeping help to keep them on their own line for the preparer.
• The LLC elected to be taxed as a corporation, or a second member joined after you paid: with a corporate election, organizational costs follow the corporate rules (section 248), not the partnership rules above; see startup costs before incorporating. A second member makes the LLC a partnership for tax unless it elects otherwise (IRS), so have a preparer say how the costs you paid earlier are treated. Get bookkeeping help to book them.
• You own the LLC from outside the US, or paid from a foreign account or in another currency: a foreign-owned one-member LLC reports amounts paid or received in connection with its formation, and contributions and distributions, on Form 5472 (instructions). A missed or substantially incomplete form carries a $25,000 penalty. See records for a foreign-owned LLC and foreign currency in US books, and get bookkeeping help to record each transfer.
• Spouses own the LLC: a couple who wholly own it as community property under state law, with no other owner, may report it as one owner or as a partnership; in a state without community property it files as a partnership (IRS). See spouse and family LLCs.
• You are still setting up the books: see setting up books for a new LLC.