S Corporations Flashcards
Who is responsible for tracking basis and filing the form 7203
Each shareholder is responsible for tracking their basis , not the S-Corporation. A form 7203 when required is filed with the individual tax return. There are things the S-Corporation may not know.
When is a 7203 filing required by S-Corp shareholder
If you are
1. Claiming a loss or suspended loss.
2. Received a distribution.
3. Disposed of stock
4. Received a loan repayment from S-Corporation
Best practice is to always do one so you can track basis.
There are numerous hurdles to deduct a loss from the S-Corporation
Some of them are:
1. Sufficient basis to take a loss
2. At risk rules (form 6198), you have at-risk basis
3. Passive activity possibility - Form 8582
4. Excess business loss considerations (Form 461)
What are some ways initial basis is determined?
Some of the ways are as follows:
1. Initial contribution.
2. If you inherit stock, generally the basis is stepped
up to fair market value at date of death
2. If stock received as a gift it uses carryover basis
3. If you purchased the stock your initial basis is
purchase price
Stock basis is adjusted annually as of the last day of the S corporation year. In what order is this done
It is done in the following order
1. Increase in income items and excess depletion
2. Decrease for distributions
3. Decrease for non deductible, non-capital expenses 4. Decrease for items of loss and deduction
You can make a non-revocable election to not treat non deductible third in the ordering which is binding on all future years. This is a shareholder election, non an S-Corp election
You can deduct losses to the extent of both what?
You can deduct losses to the extend of both stock basis and loan basis. Stock first and loans second.
In an S-Corporation you can take your losses against both your stock and loan basis but in a partnership it’s one basis as your loans are included in your equity interest.
What are some best practices relative to S-Corp basis
- Prepare form 7203 annually
- Remember it’s on the shareholder, not the S-Corporation
What is AAA?
AAA is the cumulative tototal of the S-Corp post -1982 income and gains, other than tax exempt income, reduced by all expenses and losses and any distributions made from the account. Contributions to capital are NOT considered for AAA. Essentially, AAA reflects the operations of the corporations and as such may be negative. A distribution may not create a negative AAA, only operations. The AAA account is determined on Sch M-2
The purpose of Form 7203 is to figure potential limitations of a shareholder’s share of the S Corporations deductions, credit and other items that can be deducted. What are the 3 parts
Part l: Shareholder Stock Basis
Part ll: Shareholder Debt Basis
Part lll: Shareholder Alloable Loss and Deduction Items
While not directly affecting basis, shareholder’s that have losses may also have to deal with additional limits before taking deductions/losses on their return. What are some of these others limits
After basis the next hoops are At-Risk and then Passive Activity Losses.
Discuss At-Risk limitation
Under coded S465, deductions and losses w/b limited to the amount the s/h is at-risk in the activity. If the s/h is not at-risk, then the deduction/losses will be suspended until the s/h increases the amount at-risk, if alt all.
Relative to the Passive Activity loss rules under code section 469, what is important to remember?
S corps are not subject to S469 but individual shareholders are. Essentially the deductions/losses are limited to income in that activity and then net income from other passive activities.
What is a difference between determining basis in an S-Corp and a partnership?
When it relates to debt, partnerships enter into debt agreements at the partnership level where the partners get basis in their pro-rata share of the partnerships debt which is not the case with S-Corporations. For example if an S-Corp enters into a million dollar loan that does not impact the shareholder’s debt basis at all. The loan has to be between the corporation and the shareholder
What are some changes to S-Corp K-1
K-1 now has to report if there were any shareholder loans that requires beginning and ending balances. Additionally the K-1 shows number of shares held at beginning of year and ending of year.
How is loan basis reduced?
Losses reduce loan basis on a pro-rata basis on the ratio of the outstanding loans. Each loan should stand on its own. Open loans over $25,000 should be formalized.
How do you restore debt basis
If you have reduce loan basis, repayments restore loans it may trigger ordinary income or capital gains.
Can an S Corp use the first time abatement rule for late filing of the S-Corporation return
According to Eric Green on the Tax Rep LLC webinar yes they can
When might an S - Corporation be required to pay tax
If the S-Corporation was previously filed as a C-Corporation there are 4 circumstances that you might be required to pay taxes and they are as follows:
1. The Built In gains tax
2. The passive investment income penalty tax
3. Lifo recapture tax
4. General business credit recapture
What is the Built In Gains tax and how is it computed
The Built In Gains tax may apply when a C Corporation is converted to an S corporation and at the time of conversion the FMV of the corporate assets exceeded their adjusted basis, as if we sold those assets. The S Corporation is only subject to this built in gains tax if the appreciated assets are disposed of within 5 calendar years AFTER the date of which the S-Corporation is effective
Source: YTV: Farhat Lectures - Built In Gains-S Corp
What is the Built in Gains tax rate?
The Built In Gains Tax rate is the highest corporate tax and is imposed at time of conversion
Source: YTV: Farhat Lectures - Built In Gains-S Corp
What are exemptions to the Built In Gains Tax?
The Built In Gains Tax does not apply if one of the following conditions is met:
* S Corp never treated as a C Corp
* The sale of the appreciated assets occurs at the
end of the 5 years following the date on which the
S corporation became effective
* The assets sold were acquired after the S Status
Source: YTV: Farhat Lectures - Built In Gains-S Corp
How do you get a deduction for a home office on your S-Corporation tax return
Calculate the exact amount you are spending for the home office based square footage and then write a check for reimbursement from the S-Corporation to the employee/owner. Keep documentation with reimbursement.
What are the pros and cons of an S Corp vs Partnership?
Ref: YTV
Pros & Cons -S Corp vs Partnerships
Victor Ricslit, CPA
S Corp Advantages / Disadvantage
+ S/H can be on PR & must pay reasonable salary
+ Set up more beneficial retirement plan
+ S/H not required to pay S.E. Tax on distributions
+ Health insurance can be deducted
- All shareholders must be U.S. Residents
- Limited to one class of stock
- Distributions must be according to ownership %
Allocation of income must follow ownership %As As earnings go up S Corp recommended
Partnerships Advantages / Disadvantages
+ Flexibility in allocating income , s/b in opr agrm
+ Better for Real Estate investments, owning stuff
- Distributions are subject S.E. tax unless passive inv
- If partnership pays health ins for partner that is
added to S.E. insurance
Both entities eligible for QBI deduction
Why should rental property property NOT be in an S-Corporation?
S Corp are best for active business activity. Passive businesses like rental real estate, the income is NOT subject to self employment tax, so there is no need for it to be in an S-Corp. Additionally when you remove a rental property from an S-Corp it can trigger a major taxable event. Once you remove the property from the S-Corp it is treated as a sale even thought you did not sell it. Bottom line - DON’T remove your property from the S-Corp.
As an owner of an S-Corporation should you pay yourself as a sub-contractor or as an employee?
Bradford tax institute article
March 2017
Don’t have your S corporation pay you on a 1099. You want your S corporation earned income on a W-2. You want your S corporation net income as a distribution. The law requires S corporation owners to pay themselves a salary for the work they do for the corporation. The second problem is that you expose yourself to massive tax liabilities and penalties when you don’t pay yourself on a W-. The IRS has already shown in numerous court cases that it is not shy about doling out punishments, If you have your S corporation pay you on both a 1099 and a W-2, you may avoid those nasty penalties outlined above. But this complicates your record keeping and generally makes for a bad business decision.
References:
1 Rev. Rul. 74-44; IRC Section 3121(d) specifically names an officer of a corporation as an employee subject to payroll taxes on remuneration paid for services performed.
2 Sean McAlary Ltd. Inc., TC Summary Opinion 2013-62.
3 See our article How S Corporation Owners Can Cut Taxes by Keeping a Lid on Their Salaries for examples.
4 Rev. Rul. 74-44.
5 IRC Section 6651(a)(1).
6 IRC Section 6656.
7 IRC Sections 6721; 6722.
Are health insurance paid on behalf of an S-Corporation owner subject FICA tax?
GPT / Google
FICA Tax Treatment: The health insurance premiums paid by the S corporation on behalf of the 2% shareholder are treated as wages subject to federal income tax but not subject to Social Security and Medicare (FICA) taxes.
On form 7203 (Dec 2022) what items does it show as increases to basis?
Form 7203
9-1-23
It shows the following to be increases to shareholder basis:
- Ordinary Income
- Net rental real estate income
- Interest Income
- Net Capital gains
- Tax exempt income (such as PPP
- Recapture of business credits
On form 7203 (Dec 2022) what items does it show as decreases to shareholder basis?
Form 7203
9-1-23
It shows the following to be decreases to shareholder basis:
- Distributions (If distributions exceed
stock basis report as capital gain
- Nondeductible expenses
- Business credits (sections 50(c) and (5)
