S-corp and audit

[Gretel]

Yeah, everything is bigger in Texas. I hope the paychecks too.

(Sorry, couldn't help myself)

[BHoffman]

Jiggers and Harlan - (blush) hahaha! Yeah, the net to gross is calculated the same way in AZ.

So far, I'm under the impression that the consensus is that one paycheck at year end is OK, or at least common practice? Should say, at least in Texas

[JON]

Services preformed

and profits made and no salaries-or payroll tax returns, because it is stockholder only person involved corporation. Look out then come the reclass to salaries ( if profits and distributions) taxes and penalties for failure to file, failure to pay, plus interest. The 2003 audits produced some of those stories. Argue all you want about salaries-just make sure you have a reason or correspondence with the client telling them they are wrong with potential problems listed.

[ChEAr$]

I think the gross would be $10,828.37, with $828.37 being the SS/MED withheld.

You take the net and divide by .9235. I use that formula for some farmers who just issue "net" checks. They don't have a calculator with them in the middle of a pasture or field when the checks are written while sitting in the front seat of their pickup.

That's correct, at least in Texas! (grin

In states with income tax however, e.g.Alabama, you want to make sure there is some
state withholding, and then, why not also factor in some federal as well? Might help
reduce penalties for underpayment as the case might be.

And the higher the gross, the less likely IRS might look askew at the sufficiency of wages.
After all, the income results are a wash on the 1040 with wages from an S corp.

For example, I might recommend to client it be gross of about 18,000 with FICA on that
and split the federal and state withholding between the difference with net pay.

Depending of course, have to look at each case separately.

[Jiggers]

Gross would be $10,828.37

[QUOTE=BHoffman;88363]This begs another question:

For example: (for simplicity sake, let's just assume FICA only)

Total distributions taken through the year - $10,000

One paycheck issued at 12/31 for gross wages of $10,765.

FICA withheld - (765)

Net check - $10,000.

QUOTE]

I think the gross would be $10,828.37, with $828.37 being the SS/MED withheld.

You take the net and divide by .9235. I use that formula for some farmers who just issue "net" checks. They don't have a calculator with them in the middle of a pasture or field when the checks are written while sitting in the front seat of their pickup.

[ChEAr$]

Ouch

Thanks Harlan - do we then get into the interest rules about loans to shareholders over $10k? What if the distributions that could be recharacterized are closer to $40k? And, if the amount will be recharacterized at year end anyway, would that matter?

I suppose the credit could be made to contributed capital - as though the shareholder cashed his paycheck and put the money back into his company - rather than against distributions - would that make a difference? I report contributed capital separately on the tax return but it does sort of "net" with the distributions as it affects basis.

For a few reasons, I don't like shareholder loans to and from SCorps. They rarely get "paid back" and seem to just sit there on the balance sheet making trouble. I'm especially averse to using a "Loan to Shareholder" to avoid recognizing gain from distributions in excess of basis.

Thanks to everyone for your comments. This is an interesting topic for me and I'm grateful for your thoughts.

Contributed capital? Never would I recharacterize anything into that. Look at
accounting 202 textbooks (maybe) on formation of corporations.

But you were first talking about dollars taken out of the corporation by the shareholder,
hence at end of month I would credit bank and debit shareholder loan; or, if there is
a shareholder TO the corporation,simply reduce the amount corporation owes him.

So, end of year, shareholder has "drawn" 24,000 and the "loan to shareholder" account,
a current assets has that debit balance. Determine profit (according to GAAP) first to
find out how much you must work with, and then determine his annual salary.

Nothing wrong with an annual salary. In the last century, uh.. make that next to last
century, British army officers were always paid that way.

And I use the same annual salary approach with one of my clients, whose S corporation
business is a sideline apart form his day job. Depending on preliminary profit with everything recorded on the books except his salary, he (with my "suggestions" of course) will then determine his annual salary.

On the other hand, I've another S corporation client owned by father and son equally
who draw equal bi weekly salaries. This year, for the first time, there will be a coporate
loss after these regular salaries. Granted that the loss will be split 50/50 and flow
through to their personal 1040's, but even though I've recommended they reduce their
salary in view of these current events, and thereby save some FICA tax, they decided
not to. Go figure! (grin

[Davc]

Note that if a Corp uses a loan to fund distributions then the interest is not deductible but aloan to fund payroll generates a deductible expense.

[BHoffman]

Thanks Harlan - do we then get into the interest rules about loans to shareholders over $10k? What if the distributions that could be recharacterized are closer to $40k? And, if the amount will be recharacterized at year end anyway, would that matter?

I suppose the credit could be made to contributed capital - as though the shareholder cashed his paycheck and put the money back into his company - rather than against distributions - would that make a difference? I report contributed capital separately on the tax return but it does sort of "net" with the distributions as it affects basis.

For a few reasons, I don't like shareholder loans to and from SCorps. They rarely get "paid back" and seem to just sit there on the balance sheet making trouble. I'm especially averse to using a "Loan to Shareholder" to avoid recognizing gain from distributions in excess of basis.

Thanks to everyone for your comments. This is an interesting topic for me and I'm grateful for your thoughts.

[ChEAr$]

This begs another question:

What if the shareholder takes monthly distributions through the year, but has no idea whether he will have profit by the end of the year?

(snipped for brevity....)

In this case, shareholder should NOT take "distributions", but rather characterize such
as a loan, to be settled up at year's end, depending on profit or lack of it.

[BHoffman]

Well, I suppose the audit supervisor is there for salvation from hell

[Gretel]

BTW: The IRS is given the dirty work of enforcement and collection by the money-hungry Congress. The Congress is elected by entitlement-hungry voters.

Yes, in general this is true. It still depends on power-hungry or not so power-hungry auditors and/or on insecure newcomer-auditors or seasoned and more-secure auditors if you have hell or just a reasonable audit.

[BHoffman]

With the greater scrutiny of SCorp officer salaries, it's likely that some cases will land in court and I hope those here who follow the tax court cases will share info.

BTW: The IRS is given the dirty work of enforcement and collection by the money-hungry Congress. The Congress is elected by entitlement-hungry voters.

[Gretel]

I am afraid the right answer depends on the auditor. After all, we can only do the best with what we have. What is a client supposed to do if he honestly doesn't know his bottom line until the end of the year. In this economy it's rather more of an issue than in other times I think.

Of course the money hungry IRS can penalize for payroll reports not done and paid throughout the year but maybe a court what have more common sense and decide in favor of the client. But then again, who wants to go to court?

[AuditorTurnedGood]

Great point, Bhoffman

I run into this almost constantly, and have wondered the same thing. Many of my clients end up with 0 claimed Q1-3 on the 941, and then all of the salary paid out in the last 3 months of the year. We end up doing a reclass from distributions to officer's comp and pay in the taxes by december 31. Not that this is right, but so far, so good. I'd be interested in what the "right" answer is.

ATG

[BHoffman]

Also, since PSCs are permitted to make an S election I'm grateful that JG EA brought it up. It's those PCs and PSCs taxed as SCorps that bring up a lot of these types of questions.