Contributed Capital: Everything You Need to KnowStartup Law ResourcesVenture Capital, Financing
Contributed capital is the money stockholders have invested in the corporation by purchasing stock directly from the company. 4 min read
2. Why Is Contributed Capital Important?
3. Reasons to Consider Not Using Contributed Capital
4. Reasons to Consider Using Contributed Capital
6. Common Mistakes
7. Frequently Asked Questions
8. Steps to File
Contributed Capital: What Is It?
Contributed capital or "paid in capital" is the money stockholders have invested in the corporation by purchasing stock directly from the company. The money these stockholders pay goes directly to the company. Investors can invest in a company through equity or debt. Debt is recorded as a liability and equity is recorded in a separate “contributed capital” section.
Contributed capital is a line on many companies' balance sheets after they go public and represents the amount of cash, services, and property, (or total value) shareholders have invested in the company in exchange for stock. Contributed capital is one of two types of Owner’s Equity recorded on a balance sheet, the other is retained earnings. It is vital for a new company issuing stock to understand the concept of contributed capital for accounting and taxation purposes.
Contributed capital typically appears under the "owner's equity" line of a balance sheet.
- Cash contributions are simply recorded as a deposit and entered into the equity account.
- Services are harder to enter as you have to enter the fair value for the service rendered. This usually involves determining the amount of time contributed and the reasonable hourly rate for that type of service.
- Property is entered in a similar fashion. You must determine the fair market value of property contribution. You may need to hire an expert if the property is rare or unique.
Contributed capital consists of "stated capital,” the stated price paid for the stock, also known as the par value. “Additional contributed capital” is any capital paid on top of that or above the par value.
It’s calculated by adding the share par value to the value paid that was more than par value. Shares bought on secondary markets are not included in the contributed capital total. However, any shares sold during a secondary offering would be included.
At the public offering, the price difference between the par value and the market price can be significant. Par value is an accounting function that sets the price for shares at the initial public offering. It was developed so companies could announce they were going public and that they would not sell shares below a fixed price (par). This made initial, pre-public offering investors feel confident that no one would receive a lower price than what they had paid. Of course, at the public offering they market price can end up being significantly higher than par.
State laws differ on whether a corporation is required to record and report the par amount separately from the actual amount received. Also, state laws differ on the whether a par value is required for common stock issuances.
Why Is Contributed Capital Important?
Accountants, the IRS, and investors will all be interested in a company's contributed capital amount because it is a good indicator of future growth potential.
Additionally, the amount of contributed capital usually reflects a company's future performance. It reflects how much more money investors were willing to pay than the par value of the stock. This shows how much interest there is in the company in general.
Reasons to Consider Not Using Contributed Capital
If your company never goes public by issuing stock, you will never need to worry about contributed capital.
Reasons to Consider Using Contributed Capital
If your company goes public and people buy up your company's shares, you will need to keep track of the money they pay you. This sum of contributed capital is important to report to accountants, tax agencies, and investors.
If your company were to go public, investors would purchase company shares directly from the company, at a rate you set. However, they would also pay more than that to reflect the demand for your stock. The sum they pay would be your contributed capital amount.
If your company does not go public, you will never need to worry about keeping track of contributed capital. However, you will never take in any money from stock sales, either. This can greatly hinder a company's growth.
Do not confuse contributed capital with donations. Despite the name, contributed capital has nothing to do with donations or non-profits. It is separate from the money that investors contribute that is not connected with your company going public.
Contributed capital is only assessed when stock is issued. When stock is traded between stockholders, the company receives no capital.
Frequently Asked Questions
- Why Is Additional Contributed Capital Significant?
While the par value is often very low, when a company goes public there are typically many people interested in paying large amounts for the stock. These amounts go beyond the par value (or state capital). This money is reflected by the additional contributed capital line on the company's balance sheet.
- What If Assets or Liabilities Are Traded for Stock?
If assets or liabilities are traded for stock, the value of these assets, or the negative value of any liabilities taken, is considered part of contributed capital.
- Is Contributed Capital a Debit or a Credit?
Contributed capital is a credit to your business.
- What If a Company Retires Treasury Stock?
This is deducted from the contributed capital value on the balance sheet.
Steps to File
When you go public, you will need to keep track of the amount people pay for your stock, which will likely exceed the par value. The total amount they pay is your contributed capital. Keep track of this to report it to the IRS and your investors.
If you have any questions about corporate taxation or going public, UpCounsel can help. UpCounsel sets your company up with knowledgeable, experienced lawyers. Only 5 percent of lawyers pass its vetting process, and these are top graduates from the most prestigious law schools. The average UpCounsel attorney has over 14 years of legal experience. Many of them have worked closely with companies like Google and Menlo Ventures, and they are ready to help your startup.