Insurance Agent to Agency Loans In Massachusetts

In this day and age, an agent sometimes has to be both a borrower, or a lender, in order to keep his (or her) agency afloat. Business may be bad and your agency needs cash flow to keep humming along, or there may be opportunities too good to pass up that requires an influx of additional capital right now.

Lending to your own agency, however, can be rife with pitfalls, particularly in the way agents or brokers often structure the loans they make to their companies. The IRS is very alert to people who attempt to classify payments they make to their own corporation as a loan rather than a capital contribution. More often than not, this classification attempt occurs after the fact that a loan has been made and lacks any real documentation.

If worse comes to worse and an agency cannot repay a loan made to it, then the loan can be written 100 percent against taxes.  If, however, an agent has made a capital contribution rather than a loan to his agency, then that capital loss can only be written off  in the amount of $3,000.00 per year.  Thus, if an agency has received a large loan, it could take a number of years to write off even a portion of the loan.[pullquote]“Neither a borrower nor lender be” – Shakespeare [/pullquote]

The most common way that agents run afoul of the capital contribution rules is by way of paying the bills of a corporation or an LLC out of their own pocket.  The business entity is short of cash, bills come due and the principal or principals of the company pay the bills out of their available personal funds or take out personal loans to pay the bills personally or put money into the company to pay the bills.  Whatever the case, in the principal’s mind it is clear that the payments he or she made into the agency or the personal loan proceeds put into the business are a debt of the company.  Other entities, like the IRS, however, often don’t have such a clear view of the facts.

Agency Checklists has created this checklist in order for an agent or broker to recognize the realities of the business transaction being made whether it’s going to be a capital contribution or a loan.  If you are making a loan, it is vital to document a loan in a way that allows you to have the maximum advantage and control over your company.

Draft a written note outlining the terms of the loan

This may seem obvious and time-consuming but if you want someone, like an IRS agent, to agree with you that the money you gave to your agency was indeed a loan, nothing will be more convincing than a written loan agreement.

Document the agency’s acceptance of the loan

Acknowledgement of the acceptance of the loan and a documentation of its acceptance should appear on the corporate side of the ledger in your agency’s books along with a copy of the loan terms and the obligations under the note.  The IRS loves formality.  If you don’t have the documents, the IRS most likely will ignore your pleas and will classify the loan as a capital contribution.

List the specific terms of the note

The terms of the note should specify the following:

• the amount of money loaned;
• the interest rate;
• the timetable for the repayment of the loan; and
• the conditions of default including late payments.

Make sure payments on the note are due even if the agency is in trouble

Yes, we know this seems like a lot of extra work, but it is just good business practice for both you and your agency. Often times in a small company or agency, you’re essentially dealing with yourself and so you think, why bother with added paperwork? I know what’s what. But, if things run awry, it is much better for both you and your agency to have maintained the corporate law limited liability company formalities in order to protect yourself from a legal shortcoming. For example, as we stressed earlier in this article, if you do not make specific provisions regarding the terms of the repayment of a loan and the interest rate it will appear to be a capital contribution.

Create a security agreement to accompany the loan and loan documents

The reason you are making a loan may well be that the company is on shaky ground.  That does not mean that it does not have expiration assets that could be of value if you can maintain control over them.

A security agreement duly executed and filed under the Uniform Commercial Code is essentially evidence of a mortgage on the property.  If you are putting new money into the company to keep it going you have the right to secure your debt.  If you secure your debt and the worst comes to pass you can still acquire the expirations and remove them from the corporation legally by putting yourself in the first position.  Naturally, if you have other outstanding loans with personal guaranties you will have to pay those but, by securing the assets of the corporation with your loan, you have a better chance of earning income after a default.

Since this issue can be extremely complicated, Agency Checklists strongly urges you to contact qualified legal counsel prior to filing any security agreement.

If all else fails, don’t defer on foreclosing on your security agreement

If your agency cannot repay the loan, it will be better in the long run to foreclose on your security interest rather than letting things go.  You don’t want to have a situation where the corporation is forced into bankruptcy.  But, even in bankruptcy a security interest will allow you to have a superior position in which to recover your assets. Please note that bankruptcy raises its own set of issues, including questions as to security agreements and other transactions by company insiders prior to the bankruptcy filing.

If you don’t have the slightest idea about how to draft loan documents and security agreements, best to hire a lawyer

If your talent lies elsewhere than in drafting legal documents, we think your time and money would be better spent going out and getting new business for your agency to pay off its loans rather than in learning how to draft legal documents and filing security agreements.  It might cost a little extra to have it done right by a professional, but in the end it could you save you and your agency from losing a lot more.

If you would like more clarification or help with drafting loan documents for your agency, don’t hesitate to contact Agency Checklists for a professional legal consultation.