Anyone had any experience with this. Potential S-Corp client who had a loan agreement drawn up that has loan payment schedule and stated interest rate but shareholder did not make any payments of principal or interest. Both S-Corp gross receipts and assets just under $250K but I still encouraged the sole shareholder to complete and file Sch L.
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To be a valid loan, the shareholder must follow the terms of the loan. If its a loan to the shareholder, he may be trying to disguise what in truth was a distrbution, trying to avoid a capital gain if the distribution was in excess of his s/h basis. The IRS is keen to this and would likely reclassify the loan as a distrbution. If the distrbutions are disproportionate to the amount of wages taken for the year, the IRS may try to reclassify the loan as wages. If the sharehiolder has no intention of honoring the loan, you should consider recommending to the shareholder that the loans be reclassified to a distrbutions. If the loan is from the shareholder to the company, its best to have a conversation with the client about reclassifying the loan to a shareholder contribution. You need to evaluate the client and determine why payments were not made. Was it lack of attention or is the shareholder trying to play a game and disguise the true nature of the transaction. If audited, the IRS will cut to the chase, says a duck is a duck and reclassify to what is should have been in the first place - a distrbution or a contribution. Stay away from clients that are interested in playing games - they typically don't know the rules of reporting for an S-Corp and their actions are most likely a simptom of other mismanagment. -
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I respectfully disagree with geekgirldany 100%. The tax law is clear on what needs to be done to create a valid loan between the shareholder and the company. The tax law is clear that in the absense of a valid loan, the amount paid to the shareholder is a distrbution. The tax law is clear as to what needs to be done if distrbutions exceed basis. Make the client be responsible for his actions. It is not your job to cover for the actions of your client. Circular 230 would definately say you cannot do what geekgitldany does regarding the loans. There is no substantial authority that would allow geekgirldany to do what she is doing. One only needs to research the numerous court cases that consistently treat sham loans as distrbutions or wages. You will spend a lot of time tracking and trying to figure was it a loan or a draw. Time you may not have. The truth is, if the shareholder has distributions in excess of basis that resutls in a capital gain - that it not necessarily a bad thing - if the client is in the 10/15% tax bracket, the capital gain is taxed at 0%. And if he's in a higher bracket, the max rate is 15 or 20% - still lower than what his effective rate is on ordinar income - some clients, once they understand this - actually appreciate the fact that you have explained this to them and treated it as a taxable distrbution - rather than a loan they don't know how to manage in the first place.Comment
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I deleted my answer so others can do research themselves on the issue.
I will respectfully disagree with Outlook 100%. I've done alot of research on this issue and stand by how I am handling Loan to Shareholders. I am not going against anything in Cir 230. I am also not the only accountant, EA, CPA that does this. I've had several new clients that bring in their S-Corp return and have Loan to Shareholders on the Balance Sheet.
I am going to leave it at that.Comment
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