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Dr. Fiona Chen
Dr. Fiona Chen, Certified Public Accountant (CPA)
Category: Tax
Satisfied Customers: 482
Experience:  Former IRS Revenue Agent
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I am one of the participants of LLC, holding 20% of

Customer Question

I am one of the participants of LLC, holding 20% of participatory interest in such. I want to out, so LLC will buy back my 20% interest in it and subsequently sell to another current owner of such LLC, who now holds 80% in LLC. What will be the accounting entries for transactions?
JA: The Accountant will know how to help. Is there anything else the Accountant should be aware of?
Customer: we do not want to reduce our charter capital or increase it
Submitted: 1 year ago.
Category: Tax
Customer: replied 1 year ago.
we also do not want such accounting entries would be recoded trough P/L, as we do not believe that such approach would be proper. pleas also note that initially when we were establishing the LLC, I have contributed USD 20, and my co-partner USD 80, correspondingly (own 20% of participatory interest in LLC) and my co-partner holds 80% of participatory interest in LLC. The Charter capital is formed based on above and in our charter documentation we have saying that LLC's charter capital equals to USD 100. LLC buys back my 20% interest for USD 20 (my initial contribution), and further will sell to my co-partner the same 20% for USD 40. we need accounting entries at the level of LLC, with no involvement of P/L and no reduction or increase(i.e. change) of our charter capital. The buy back and further sale are executed within one year (n the same period).
Expert:  Dr. Fiona Chen replied 1 year ago.

Dear LLC Transactions,

It seems that the bot***** *****ne is that you want you, the partnership (LLC), and the other owner all have no tax effect through this transaction.

1) It is hard on you to start with. Are you sure that you will have no gain and no loss?

2) The other partner, is s/he going to receive a no gain and no loss on this transaction by what she is going to put out?

3) The partnership itself is likely and easier to be no gain and no loss if somehow its buy back and sell of the stock is of the same value.

Would you please think about these questions? Accounting entries is the secondary consideration. If all entries only touches the balance sheet items, in cash, and in equity account for owners' capital accounts, of course, there is no P/L impact. In a way, the accounting journal entries are the easier ones. Accounting entries reflects reality. But if you report as partnership, the change in the ownership, distribution, and inside and outside basis will have tax effect on partners, on their individual tax returns. This transaction does not affect the earnings on the K-1. But it is likely to affect the partners' bases in the partnership.

Please feel free to follow up with questions. Otherwise, I am ready to be evaluated by your satisfaction of my answer to your question.

Regards,

Fiona Chen, MPA, Ph.D., CPA, ABV, CFF, CITP

Customer: replied 1 year ago.
Thans for the answer, but I do not feel the answer is full, I have specifically asked to provide me with the accounting entries via equity, that would not affect P/L. We do not have a purpose on tax avoidance, as partners we are to face and settle the tax implications. I have asked the accounting entries at the level of partnership, and we yes, do believe that there shall be no gain no loss at the level of partnership as as Profit or loss arises only from transactions with third parties. It cannot arise in transactions between owners. Such transactions result in transfer of wealth from one set of owners to other set of owners. As per IFRS, the gain or loss from the sale of such is adjusted in equity directly. It is not routed through profit and loss account.So, please respond the main question the accounting entries referring to corresponding GAAP. Otherwise, I do not find this answer as satisfying, it is simple discussion / false assumption of our intentions.Looking forward to receive a proper answer, for which my card has been charged already! Thanks
Expert:  Dr. Fiona Chen replied 1 year ago.

Dear Entries,

Don't worry. I said that we can follow up with questions. I will give you entries. It is not P/L, but it will have influence on your bases.

My intention was to ask you how much are you purchasing and selling in terms of dollars? It cannot be equal to your contributions, right? So, it will have influence on your K-1. It is to some people, the same effect of K-1.

Do you have agreed transfer pricing for both of you?

I will follow up with entries.

Who is the third party? Do you mean the partnership itself?

Regards,

Fiona

Expert:  Dr. Fiona Chen replied 1 year ago.

Dear LLC Entries,

Let's assume that you contributed 20, and now you want to sell for 25.

And it is agreed by your partners that s/he will purchase by 25.

No need to answer my last questions. I am assuming that your partnership is the third party you are assuming.

Regards,

Fiona

Expert:  Dr. Fiona Chen replied 1 year ago.

Dear LLC Entries,

The following is from Accounting by Partnerships, BNA Tax & Accounting, Accounting Policy and Practice Portfolios. So, it is correct. Explanation is by me.

When the partnership (in this case, your LLC) is buying out (or retiring) a partner, the other partner(s) does not have to pay in more capital. Partnership is by proportion of the partners' bases in the partnership.

Without the other partner(s), the existing partner automatically becomes 100% owner. If the entity needs more cash, the remaining partner(s) can even do loan to the entity. And there is no need to do additional capital.

So, in a way, it is your partner agrees to have the partnership buy the partner out with 25.

I. If you receive the same amount as your book value of equity and you receive cash,

Your Capital Debit 20

Cash Credit 20

2 If you receive the same book value but the partnership does not pay you cash and your partner will pay from her pocket later on and becomes her liability. That is, she will pay you cash.

Your Capital

Expert:  Dr. Fiona Chen replied 1 year ago.

Sorry the above somehow is sent. I am not done yet.

Expert:  Dr. Fiona Chen replied 1 year ago.

2. continued.

Your Capital Debit 20

Loan from the Other Partner Credit 20

3. If you receive amount higher than your book value of 20, i.e., you receive 25.

If this additional amount is considered as your valuable services and not re-valuation of the value of the partnership, then the entry is like this:

Your Capital Debit 20

Your partner's Capital Debit 5

Cash Credit 25 (paid to you)

Is this clear enough?

Please feel free to follow up with questions.

Regards,

Fiona

Expert:  Dr. Fiona Chen replied 1 year ago.

Dear LLC Membership/Partner,

Are the journal entries clear?

Thank you,

Fiona

Customer: replied 1 year ago.
Dear Fiona,Thanks for follow ups, have not had time to go through your replies, apologies for delay. I believe you are not clear in issue raised as based on GAAP you cannot recognize such transaction as loan, and moreover the buy back and subsequent sale to the existing partner are done within 3 months. Such transactions have an economic substance as additional paid in capital, shareholder gets the participatory interest and LLP gets cash. I do not understand what are the basis to say that such transaction shall be treated for K-1. As once LLP would declare that such cash shall be treated as income it would have to pay income tax, which would reduce RE, and subsequently a distributable reserves on receiving of which the partner would have to pay taxes if such would be paid.Shall we have a call?Thanks
AT
Expert:  Dr. Fiona Chen replied 1 year ago.

Dear Customer,

1) In terms of K-1, if the 20% owner obtain cash from LLC, then, the K-1 of Form 1065 Section L Distribution needs to record as such. Whether the distribution will cause the 20% owner tax effect depends on his/her outside basis.

2) In term of loan, the explanation above may not have been as clear as it needs to be. That is, if the LLC does not have money and have to borrow from the 80% owner, the journal entry just records the fact as it is.

3) LLC is membership percentage ownership. The 80% does not need to purchase the 20% ownership. Once the 20% owner is bought out, there is no more 80% owner. The 80% owner becomes the 100% owner.

Regards,

Fiona