Recording payments to previous owners for contract
Total Views: 246
We purchased our business from the previous owners on contract terms with no interest and it will be paid in full in less than 1 year. Do I record payments to them under "Other Current Liabilities?"
Solved!
Helpful Answer
Yes! You need at least one asset account. Your life will be easier in the long run if you make a list of exactly what you bought, and how much it was worth. The trailer, each piece of equipment, inventory (if any), goodwill (what's left over after you've assigned values to everything and it still doesn't add up to the full purchase price).
Inventory is its own Other Current Asset account. Goodwill (which you might not have) is an Other Asset. The trailer and equipment are all Fixed Assets, and you can enter them as multiple line-items in the same account, using the memo field to indicate what item the value belongs to, or as separate accounts.
So you might have an entry that looks like this:
Debit Inventory $150
Debit Fixed Assets: $2,500 (trailer)
Debit Fixed Assets: $550 (popcorn popper)
Debit Fixed Assets: $200 (nut roaster)
Debit Goodwill: $4,600
Credit Due to ThatOtherGuy $8,000
Answer
Most likely, the debt owed to the previous owners is personal to you, rather than a liability of the purchased business, and doesn't belong on the business books at all.
Answer
No. If I borrow money to buy Microsoft stock, that debt isn't Microsoft debt; it's personal debt. Same thing if I borrow money to buy stock in your business from you - still personal debt. In general, if the business borrows the money, it's a debt of the business. But if the business had borrowed money to redeem the previous owner's stock, the business would own that stock - not you.
If you were to book the debt on the corporation's books, the debit side of the entry would be to Owner's Equity, which would be a bad tax answer and wouldn't make the bank happy, either.
If what you had was an asset purchase (rather than a stock purchase), so you've got all the assets at FMV, there's probably enough Owner's Equity that contributing the debt along with the assets to wouldn't necessarily be a bad tax answer.
Comment
I'm sorry, but I'm still confused. When someone borrows money to start a business, the business hasn't been established yet, therefore they would have no choice but to secure a personal loan. When they do this, they aren't purchasing stock in the business, because the business isn't an entity yet. Wouldn't the personal money they used to secure this loan to start the business be considered "Owner's Equity"? After all, the business wouldn't be established without this money. After the business has been established and is producing revenue, I would think that the remainder of the loan repayments to pay off the personal loan would then be a business expense, because the loan was secured to purchase and fund start up expenses for that business. I'm confused about this because when I started a business several years back, I secured a loan to purchase a franchise and help with start up costs, this was a personal loan because the business hadn't been established yet. The payments I made to the bank to satisfy my personal loan were absorbed by the business, and the capital I put up to secure the loan were considered "Owners Equity".
Comment
When you said "we purchased our business," what *exactly* did you purchase?
Also:
1) A counterfactual situation is not necessarily analogous to your situation. Trying to analogize to a counterfactual situation is likely to lead you down the wrong path.
2) Loan repayments are *never* an expense, business or otherwise. The interest may be deductible in some manner, but not the principal.
3) A startup business is different from the purchase of a going business (see #1 above). Contributing debt to a startup is not the same as contributing debt to a going business.
Comment
We purchased a concession stand, along with a cargo trailer and all the equipment needed to operate this stand. The purchase price was $8000, we paid $2000 from personal money as a downpayment, and have since paid an additional $2000 out of the revenue from the stand. We still have $4000 to pay. If the business doesn't absorb the cost associated with purchasing the business, and it is a personal expense, then, should I change the way I've allocated those monies from a Liability to the business to an "Owner's Draw" as a gj entry? If so, then what gets credited and what gets debited? And how should I show this on my financial statements that are to be included in my business plan? I will include a copy of the contract, as well as the receipts showing that the payment agreements made have been made in a timely manner. Sorry to be such a pain in the neck, I just want to make sure that my business plan and my books are all in order and that there's no questions.
Answer
OK, what you bought was assets, rather than an entity, then contributed assets and debt to a new (not necessarily legally separate) entity. I think you were on the right track originally - sorry to have misunderstood the situation.
To set up the original purchase
Debit [potentially a variety of asset accounts, allocating the purchase price between each of the hard assets and goodwill if any] $8,000
Credit Due to ThatOtherGuy (yes, an Other Current Liability account) $6,000
Credit Owner's Equity $2,000
And then as payments are made, you debit Due To ThatOtherGuy, and credit Cash. Not an expense of the business; just paying down the note.
It sounds like you're doing it just fine. :)
Comment
No need to apologize, this is all so overwhelming to me, last time I owned a business, I had nothing to do with the accounting. My mother, who was also my partner in the business did all that stuff. So, I'm trying to learn what at least 2 years of school would teach in 2 weeks, due to the deadline I have to submit my business plan. No pressure! Ha ha!
How do I set up an account to show the balance due on the purchase to "That Other Guy". I have only created an Other Current Liability Account showing payments made, but not the balance owed. Oh, wait, should I just go back to the beginning and make the balance of that account $8000, then, record an owners equity payment of $2000 and debit "that other guy" account and credit owner's equity, then when the other payments were made, again debit "that other guy" account, and credit cash?
You are the best! And a thousand thank yous for helping me out.
Comment
When you recorded the "I bought $8k of stuff" entry, what accounts did you use, and for what dollar amounts? If you haven't made that entry at all yet, make the entry I posted above, under "To set up the original purchase."
Comment
I just opened QB to do exactly that, then I couldn't figure out what accounts to debit. When you say hard assests, what would those be? Do I need to create an Assests account to absorb this?
Solved!
Yes! You need at least one asset account. Your life will be easier in the long run if you make a list of exactly what you bought, and how much it was worth. The trailer, each piece of equipment, inventory (if any), goodwill (what's left over after you've assigned values to everything and it still doesn't add up to the full purchase price).
Inventory is its own Other Current Asset account. Goodwill (which you might not have) is an Other Asset. The trailer and equipment are all Fixed Assets, and you can enter them as multiple line-items in the same account, using the memo field to indicate what item the value belongs to, or as separate accounts.
So you might have an entry that looks like this:
Debit Inventory $150
Debit Fixed Assets: $2,500 (trailer)
Debit Fixed Assets: $550 (popcorn popper)
Debit Fixed Assets: $200 (nut roaster)
Debit Goodwill: $4,600
Credit Due to ThatOtherGuy $8,000
Comment
You are incredible!!!!! I cannot thank you enough for all of your help, I can now see the end of the rainbow! Almost! If I could give you a big hug, or a high five I would!
Comment
Yay! Good luck with it, and post back if you have more questions.
Comment
I'm confused then. If we were to acquire a traditional loan to purchase the business, the loan repayment would be an expense to the business, correct? We, of course, put in personal capital as a "downpayment" when we entered into this contract with them and I have recorded that as "owner's equity" under the business. If someone wants to start a business and doesn't have the necessary capital for start up expenses and the purchase of the business, one would go to a bank for a loan, and be expected to put up some personal capital to secure that loan. This is really no different from that, except that we are not being charged interest, and the terms are much shorter. If someone could please clarify this for me, I am feverishly working on a business plan to secure a traditional loan to pay off the remainder of this debt and expand our business, and have a very short deadline to submit this to the SBA. Thank you!