With higher corporate tax rates and more emphasis by the Treasury on taxing distributions to stockholders as dividends, the advantage in setting up stockholders' advances to a corporation as loans rather than as equity capital has become more marked. Many stockholders commencing risky, incorporated businesses would like to get their capital out of the corporation as soon as possible so as to minimize the risk of loss in the event business conditions should turn bad. A stockholder cannot receive a return of part of his equity capital without serious question as to his liability for tax on the distribution as constituting a dividend to the extent of any accumulated surplus. Loans to the corporation, however, if entitled to be treated as loans for tax purposes, can be repaid without any question of a taxable dividend. Futhermore, to the extent that interest is paid to the stockholder on the loan, the corporation receives a deduction. While the interest is taxable to the stockholder, nevertheless, to the extent of the deduction thus secured by the corporation, there is avoided the double tax which results when income of the corporation is taxed to the corporation and then distributed to, and taxed again in, the hands of the stockholder.
F. A. LeSourd,
Tax Treatment of Stockholders' Advances (How Thick Must Be a Thin Corporation),
28 Wash. L. Rev. & St. B.J.
Available at: https://digitalcommons.law.uw.edu/wlr/vol28/iss1/5