A question that often comes up with clients who conduct their business through a limited liability company (which is most of our business clients, these days) is how to most efficiently add money to the business.
By default, many people assume that making a capital contribution to their LLC is the “normal” method to add funds, if not actually the most “efficient” way (at least for the purpose of financing the company’s day-to-day, ordinary course business needs). After all, the Michigan Limited Liability Company Act makes it clear that even though LLCs do not have to require initial or additional capital contributions from the members, if and when the members do in fact make contributions, proportionality in those contributions is not required relative to the members’ ownership interests. Thus, each member or a particular group of members could make a contribution as needed. However, this “contribution” approach will cause fluctuations in each members’ capital accounts (i.e. each member’s account that records contributions, distributions, shares of profit and loss, etc.), which in turn can create unintended changes in the amount of ownership that each member holds unless the LLC’s operating agreement dictates otherwise.
As a result, an alternative approach to consider is making a loan to the LLC rather than a contribution. The main benefit of this “loan” approach is that neither the members’ capital accounts or ownership interests will change, but another benefit is that the loaning member will have a more secure position as a “lender” than as a member simply making a capital contribution in the event that the LLC dissolves, as a properly documented loan should be a binding obligation on the company. And finally, making a loan also adds an additional financial benefit to the LLC, as the interest on the debt will likely be deductible to the company.
Now, a word of caution: please bear in mind that proper documentation is necessary to define the terms of the loan (i.e. loan amount, interest rate, repayment terms, default provisions, etc.). Accordingly, if you are interested in learning more or using this approach to provide additional funds to your LLC, please feel free to contact me.