Question

Tim, Manu, and Tony formed Spurs, Inc. (a C Corp) to market and sell basketball apparel. Tony and Manu contributed $10,000 each in exchange for common stock while Tim contributes $80,000. Tim contributed $10,000 in exchange of common stock. After a terrible first year, Tim advanced a loan of $20,000 to Spurs, Inc. to help the company stay afloat. No promissory note was signed by the company. After another 3 years of net operating losses, Tim agreed to advance another $30,000 but with the Spurs signing a promissory note with payment terms and interests. However, the Spurs never paid back interest.

Shortly before advancing the funds, Spurs' Inc. CFO told Tim that the company's financial prospects are dim with projected revenue expected to come in 60% below forecast. The CFO also warned Tim that without the cash advance that the company will likely go under. The company is also expected to experience severe cash flow due to uncollectible receivables exceeding their net terms.

Spurs Inc. eventually goes out of business. Tim comes to you and wishes to report business bad debt write off of $50,000 from the two advances that he made to Spurs. What would you advise him regarding these loans and why? Can he write them off?

Answer 1

Ans:

Facts of the Case:

Since 3 years, company is having net operating losses as well as company is not able to generate its forecasted revenue, so in the long run company does not seems to be profitable. In the long run, due to net operating losses, company may not even able to recover variable expenses and may have to shut down its operations

Every time company needs loans or cash advance to be for running its business

Due to uncollectible receivables also comapny is facing cash crisis

Conclusion: For 1st loan of Rs. $20000 Tim does not even have a promissory note also.In all such scenarios it is advisable that Tim may not be able to recover his loan and has to write off $50000 loan amount in his books of account.