Uniform Capitalization Rules

[Taxman]

I have a question regarding the above. I did a search on the board and found some helpful info but wanted to make sure my clients situation would be exempt. My client is an S-Corp and manufactures kitchen cabinets. His gross income is around $125,000 and his total indirect costs are around $12,000/year. Based on this he does not capitalize direct or part of indirect costs for production. Currently he accounts for inventoriable items as materials and supplies that are not incidental. Does it sound like he is applying the rules correctly?

[Bees Knees]

Yes and no.

TTB, page 8-14 says if indirect costs are $200,000 or less, UNICAP would not apply. But direct costs must still be accounted for as inventory, even if you are using the cash method of accounting. The Author's Comment on page 8-13 says even if an exception to the accrual method of accounting applies, the taxpayer must keep inventories to clearly show income. Cost of goods sold must still be figured under both cash and accrual. The only difference between cash and accrual as far as COGS is concerned is the timing of accounts payable and accounts receivable.

[Taxman]

Thanks

Bees Knees. So it looks like he should keep track of inventory and calculate COGS. He is a 100% shareholder of the S-Corp and the only employee. If I capitalize 100% of his salary as inventory then it will flow through to cost of labor as part of COGS, do you think any red flags would pop up when there is 0 showing for compensation of officers and amounts being shown for shareholder distributions? Thanks again for the input.

[fliszt]

I would

think the $0 officer comp would eventually pop the IRS button. Especially in a SCorp situation. When calculating COGS assign an hourly rate to the owner and use that for labor. Then assign another hourly rate to the other catagories not associated with COGS. Owner has to do administrative duties (invoicing, accounting, etc) which is what I would use then for Officer Comp and put it onto a W-2.
Larry M

[Bees Knees]

I agree with Larry. However, the instructions for Form 1120S, line 7 compensation of officers says: "Do not include salaries and wages deductible elsewhere on the return, such as amounts included in cost of goods sold..."

I think if you put it on line 3 of Schedule A for cost of labor, that would indicate to IRS that wages are being paid. Also, since the activity code for the S corp is a manufacturing business, I think they probably are looking for wages to be reported under cost of goods sold anyway. So I don't think there would be a problem not having anything on line 7 for officer compensation.