USA How to record company default on owners loan with conversion into capital (S-Corp)

Mar 12, 2021
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United States
Lets say your company (S-Corp - single owner) needs additional financing, but already has loans outstanding to two banks and an equipment lender. Therefore, your company has few assets to use as collateral. You decide to lend your company $50,000 at 6 percent interest for a term of three years. If your company cannot make the interest and principal payments to you during that time, it is in default. However, your promissory note is unsecured, so you would have little claim to any assets. You decide to use equity to secure the loan. In this scenario, if the company defaults on your loan, you get an additional equity stake worth $50,000 in the company.

What would be Journal Entries for this situation? How to record money owned to owner (liability) to be converter into equity. Are there any tax implications.

Thank you!

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