Employee loans to employer

[Denne]

I have an employee that paid for office supplies, loaned the employer money and now it is evident that the employer will not be paying this employee back. He has gone out of business..... Sad story, but wondering if the more than $10,000 can be written off. There were also payroll checks involved htat could never be cashed. I feel that the past employer was a real thief. This was really a business investment of sorts. Please advise me how you would handle this matter.

Thanks....

[jainen]

>>This was really a business investment of sorts<<

In my opinion, that's probably a fairly difficult argument to support. Your first step might be to determine if this was a bona fide loan (enforceable right of repayment, etc.), an equity stake (the normal definition of investment), or just a waste of money. Different aspects could be treated differently. For example, office supplies in an accountable plan might be considered a non-business bad debt, while unpaid wages would simply be not added to income.

[Gail in Virginia]

Pub. 529, page 3, gives an example where an employee makes a loan to the corporation he works for in order to keep his job as being a business bad debt. It all depends on facts and circumstances, but this is an unusual situation and would require meticulous documentation to claim, IMHO.

Pub 529

[JohnH]

Good point. The fact that this is used as an example in the Pub would go along way toward supporting the deduction. Doesn't make it a slam dunk, but certainly a strong argument in the client's favor. But as you say, documenting everything is the key element.

What was his dominant motive? Here's an article that might be of help. In this situation the employee was also a shareholder, but the key element focused on the fact that the indidivudal was an employee trying to keep their job rather than an investor in the business. http://www.aicpa.org/pubs/taxadv/online/sep2004/trends1.htm The deduction might be subject to the 2% haircut, but that's still better than no deduction at all.

The uncashed payroll checks might be a separate matter altogether, to be treated differently than the loans. As jainen pointed out, this might be a good reason to carefully scrutinize the W-2 for accuracy