Capitalization: Working Capital



When it comes to starting a business, two key questions entrepreneurs ask are: “how do we finance our new business” and “what are the tax consequences”?

Entrepreneurs know that to launch a business it takes time and money and usually some equipment. They must face that fact that they must invest in the business or “contribute” some form of capital into their businesses when they get started.

The type and amount of “working capital” (cash, property or services) that is needed and invested into your business will vary depending on the initial needs of the business. This could be as simple as a laptop to work on, or as detailed as developing a manufacturing process for a prototype. The initial working capital is generally referred to as the “initial capital contributions” made by the entrepreneur and members of the company.

The good news is that IRS allows individual entrepreneurs, regardless of the entity, to invest their “post tax dollars” or “owned property” into the businesses, in exchange for a percentage of the membership interests for an LLC or some number of shares of stock if a corporation as business equity. This transaction is generally tax exempt to the principals and business, and determines the level of ownership or “tax basis” that each principal can use to offset their expenses. Since this transaction occurs with all entities it is more of a practical business rather than legal consideration. However, it is equally important to understand.