From Sole Proprietorship to Llc: Transferring Assets

The time has come. You've decided to change your business structure. You've chosen that to shed the sole proprietorship phase of your endeavors and adopt the structure of the limited liability company. Smart move!

But, now you're faced with some assets that you - as a sole proprietor - own that you'd like to transfer to the newly formed LLC. Just how do you do that?

Two simple ways come to mind. The first is an outright sale. The second is a contribution of capital. We'll tackle each here briefly.

Your new LLC is a separate legal entity. So, what you want to do is to change the titles of the assets you seek to transfer to reflect the name of your new LLC. If you choose to do this through a regular sale, you may find yourself subject to certain taxes, depending on the amount of depreciation left on the equipment itself.

Let's look at the sale of your computer, for instance. You bought it several years ago for $1,500. You've already taken all the depreciation that's available for it. And you - in the capacity of your title of sole proprietor - will now sell it to the LLC for $750. The new company simply writes a check to you for the purchase. And all you need for proof of this is the bill of sale. Since you have no depreciation, you have a taxable gain of $750 from the sale of this piece of equipment. After all, you've just made $750.

If instead of outright selling it, you give the computer to the new company as a "capital contribution" you could avoid paying any taxes on this equipment. And it requires very little paperwork (which is always good). All you need to do is to make an adjusting entry in the financial books of the LLC. You may also want to add a memo or a resolution to the company articles recording the transaction. Be sure to indicate that the exchange was mutually agreed upon by the two businesses.

From here, the LLC uses what's called a "carryover" basis for this piece of equipment. The LLC uses the same rate of depreciation that you've been using. If you've already written off the entire cost of the equipment, as in the example above, then the carryover rate is zero.

So since you bought the computer for $1,500 and you've only taken a depreciation of $500, then the carryover rate of the LLC is $1,000. The LLC is obligated to report this on the owner's Schedule C of his/her tax returns (which by the way is you!). For the purpose of tax filings, nothing has really changed.

Now what do you do if you want to transfer an asset that you're still making payments on, like a car? This may cause a few headaches - but it's nothing that can't be overcome. First, let's consider that the car is already paid for.

In this case, you simply take the title to the appropriate office in your state and transfer the title from your name to that of the LLC. You may request the LLC to purchase it or you may decide to make it a "capital contribution" to the firm. (In either case, don't forget that you also need to change the name on the car insurance policy as well.)

If you're still making payments on the car, the lender may have a "due on transfer" clause attached to any potential sale. This means that as soon as you transfer ownership to the LLC, any remaining balance owned on the car becomes due to the original lender. In effect, somebody has to pay off the loan.

Many lending companies may allow you to waive this clause - especially in a case such as this. After all, you are going to pay either way - in the persona of the sole proprietor or as the owner of the LLC. Double check with the lender before you begin this process.

If a due on transfer is in effect, they may indeed waive it. If they do, make sure to get this in writing. (Don't leave something as important as this to just a verbal agreement. The person in the lending institution may resign the day after he tells you this and you'd have no proof!)

It's always best, though, before you make any transfers to speak not only to a qualified CPA who can guide you through the maze of your own state's tax laws, but to an attorney as well. Take your time and make wise decisions, and the process of transferring assets will a smooth and easy one!