Intercompany transfers & shareholder loans

I Moved $50K Between My Two LLCs — Did I Mess Up My Taxes?

Q: What happens if a shareholder loan is never repaid?

It resolves one of two ways. Either the balance gets forgiven, which is Cancellation of Debt income under IRC Section 108, taxable to the entity that owed the money — or an examiner reviews the facts and reclassifies it as a constructive dividend or compensation, taxable from the day it was drawn, plus penalties and interest.

Short answer: moving money between entities you own isn't automatically a problem, but an undocumented transfer is treated by the IRS as if nothing legitimate happened — no note, no benchmarked interest, no repayment schedule, and no authorization on record turns a simple transfer into a taxable dividend, a red flag in diligence, or a pierced liability shield.

Why This List Exists

An intercompany transfer looks simple the day you make it. It stops looking simple the day a lender, an auditor, or the IRS asks you to explain it. The IRS treats an undocumented "loan" as a taxable dividend or distribution — after the fact, with penalties and interest attached. Lenders and buyers see unreconciled intercompany balances as a sign the books can't be trusted, and price that risk into the deal. Commingled funds between entities are one of the fastest ways to undo the very liability separation those entities were formed to create.

The Top 10 Mistakes

No Written Agreement or Promissory Note

Money moves between entities with a memo line, a text message, or nothing at all — no note, no terms, no signatures. It happens because the entities share an owner, so it "feels" unnecessary. Without a note, there's no legal basis to call it a loan at all — to the IRS, a lender, or a court, it's just an unexplained transfer.

Missing or Below-Market Interest

An intercompany "loan" charges 0% interest, or a rate nobody bothered to benchmark, because interest feels like paperwork between related entities. The IRS can impute interest at the Applicable Federal Rate and tax the difference as phantom income, even though no cash ever changed hands for it.

No Real Repayment Schedule

The "loan" has no maturity date, no payment schedule, and years pass with no principal repaid — it's easier to let the balance ride than formalize terms. A loan with no realistic path to repayment reads as a capital contribution or distribution in substance, regardless of what the books say.

Commingled Funds, No Per-Entity Ledger

One operating account effectively funds several entities, with no running balance tracked for who owes whom — faster day-to-day, especially when the same person signs every check. By the time someone tries to reconstruct the balances, months or years of transactions have to be untangled by hand.

No Documented Business Purpose

There's no record of why the transfer happened, because the purpose was obvious to everyone at the time, so nobody wrote it down. "Obvious at the time" doesn't survive three years, a staff turnover, or an examiner who wasn't there.

No Authorization Trail

There's no board resolution, member consent, or meeting minutes approving the transfer — formal authorization can feel like theater when it's the same person on both sides. Related-party transactions get extra scrutiny precisely because self-dealing is possible; missing authorization removes your best evidence that it wasn't.

Consolidated Financials That Don't Eliminate the Balance

Intercompany receivables and payables sit on both sets of books, inflating consolidated assets, liabilities, or revenue — elimination entries are an extra close-cycle step that's easy to skip. Lenders, investors, and buyers see overstated financials, and it raises doubts about everything else in the statements.

Inconsistent Treatment Between Entities

An intercompany transaction isn't just a direct transfer — it's also created when one entity pays an expense on another's behalf, and the same entry belongs on both sets of books. Mismatched or missing treatment is one of the fastest things an auditor finds, and once found, it undermines confidence in every other number.

Undermining the Liability Shield

Funds move freely between entities formed specifically to keep each other's liabilities separate — especially common across property-holding LLCs — because separate entities with the same owner and bank relationship don't feel like the money is "leaving the family." Courts look at exactly this kind of commingling when deciding whether to pierce the corporate veil.

#10 — the one that catches everyone: the shareholder loan trap. It starts small: the owner draws cash from the business between paychecks, books it "due from shareholder," and means to pay it back. Then it happens again, and again, for years, until the balance is large enough that everyone quietly stops mentioning it. By the time anyone looks closely — a sale, a divorce, an audit, an owner's death — it isn't a loan anymore. It's a number with no note, no interest, and no realistic plan to ever be repaid.

How the Trap Actually Springs

A stale shareholder loan resolves itself one of two ways — and both are expensive.

Path A — the balance gets forgiven

The company or the owner finally writes the balance off rather than dealing with it. That forgiveness is Cancellation of Debt (COD) income under IRC §108 — taxable to the entity that owed the money, often in a year it can least afford the hit.

Path B — the IRS gets there first

An examiner reviews the facts — no note, no interest, no repayments, no realistic capacity to repay — and concludes it was never really a loan. It gets reclassified as a constructive dividend or compensation, taxable from the day it was drawn, plus penalties and interest for every year since.

The Fix Is Almost Always the Same

Put it in writing

A real promissory note — principal, interest rate, maturity date, signatures.

Charge real interest

At or above the Applicable Federal Rate, actually paid or accrued.

Set a repayment schedule

And follow it — sporadic, undocumented repayment doesn't count.

Document capacity to repay

The math has to be plausible, not just possible on paper.

Track it per entity

A running ledger balance, reconciled every close — not a mental tally.

Get authorization on record

Board or member approval, in writing, before the money moves.

This material is for general education and does not constitute tax or legal advice. Consult a qualified professional for guidance specific to your business.

Frequently Asked Questions

Is moving money between two LLCs I own automatically a problem?

Not automatically, but it needs to be documented like a real transaction — a promissory note with terms, real interest, a repayment schedule, and authorization on record. Undocumented transfers are what get reclassified as taxable income or challenged in diligence.

What happens if a shareholder loan is never repaid?

Either the balance gets forgiven, which is Cancellation of Debt income under IRC Section 108, taxable to the entity that owed the money — or an examiner reclassifies it as a constructive dividend or compensation, taxable from the day it was drawn, plus penalties and interest.

Does charging 0% interest on an intercompany loan matter?

Yes. The IRS can impute interest at the Applicable Federal Rate and tax the difference as phantom income, even though no cash ever changed hands for it.