.Owners of closely held corporations are often interested in easily withdrawing money from their businesses at the lowest possible tax cost. The simplest way is to distribute cash as a dividend. However, a dividend distribution isn’t tax-efficient. Dividends are still taxable to you to the extent of your corporation’s “earnings and profits”. Plus, this specific business cash withdrawal is not deductible by the corporation.

Other Business Cash Withdrawal Strategies

Fortunately, there are several alternative methods that may allow you to withdraw cash from a corporation while avoiding dividend treatment. Here are five strategies to consider:

Capital Repayments

To the extent that you’ve capitalized the corporation with debt, including amounts that you’ve advanced to the business, the corporation can repay the debt without the repayment being treated as a dividend. Additionally, interest paid on the debt is deductible by the corporation. This assumes proper documentation of the debt with terms that characterize debt and that the corporation doesn’t have an excessively high debt-to-equity ratio. If not, the “debt” repayment may be taxable as a dividend. If you make future cash contributions to the corporation, consider structuring them as debt to facilitate later withdrawals on a tax-advantaged basis.

Compensation

Reasonable compensation that you, or family members, receive for services rendered to the corporation is deductible by the business. However, it’s also taxable to the recipient(s). This same rule applies to any compensation (in the form of rent) that you receive from the corporation for the use of property. In both cases, the compensation amount, or business cash withdrawal, must be reasonable in terms of the services rendered or the value of the property provided. If it’s considered excessive, the excess will be a nondeductible corporate distribution.

Loans

You can withdraw cash tax free from the corporation by borrowing money from it. However, to prevent characterizing the loan as a corporate distribution, you will need proper documentation. Completion of such would be in a loan agreement or note. It should also be made on terms that are comparable to those in which an unrelated third party would lend money to you, including a provision for interest and principal. Also, consider what the corporation’s receipt of interest income will mean.

Fringe benefits

You may want to obtain the equivalent of a cash withdrawal in fringe benefits. This method makes it nontaxable to you and deductible by the corporation. Examples include life insurance, certain medical benefits, disability insurance and dependent care. Most of these are tax-free fringe benefits. However, you must be providing them on a nondiscriminatory basis to other corporation employees. You can also establish a salary reduction plan. This will allow you (and other employees) to take a portion of your compensation as nontaxable benefits, rather than as taxable compensation.

Property sales

A business cash withdrawal from the corporation is also possible by selling property to it. However, you should avoid certain sales. For example, you shouldn’t sell property to a more than 50%-owned corporation at a loss. Doing such, the loss will be disallowed.

In addition, you shouldn’t sell depreciable property to a more than 50%-owned corporation at a gain. In doing so you are treating the gain as ordinary income, rather than capital gain. A sale should be on terms that are comparable to those in which an third party (that are not in relation) would purchase the property. You may need to obtain an independent appraisal to establish the property’s value.

Minimize Taxes

If you’re interested in discussing any of these business cash withdrawal ideas, contact us. Our accounting company can help you get the most out of your corporation at the lowest tax cost.