New client: No basis and owes S corporation money

[Rapid Robert]

The funds in excess of basis? Large property depreciation claims resulting in losses, but cashflow has been relatively even.

Now I'm wondering if the basis has been correctly calculated. "Cashflow" does not affect S-corp shareholder basis.

You may want to review the following summary from the IRS web site:

S Corporation Stock and Debt Basis

[equinecpa]

No, not shown as a pass-through capital gain on 1120S. The shareholder loan account gets "eliminated" although it should never have been called that if it was not a legitimate loan. No it does not restore basis, because basis is already zero. Basis cannot go below zero, as I recall.

"And if they can't pay it back? I call it capital gain, and then is it treated like a distribution on the books?"

Yes, on the books it is a shareholder distribution. Your tax software may automatically enter this on Form 1040 Schedule D because it knows the the shareholder basis at the beginning of the year and can figure out if distributions were in excess by the end of the year. I'm still curious where the funds came from in excess of basis to fund these distributions for personal expenses. Did someone lend money to the sole-sharenolder S-corp?

The funds in excess of basis? Large property depreciation claims resulting in losses, but cashflow has been relatively even.

[BOB W]

It can be caused by credit card expenses with little payment toward that liability and/or paying employees off the books (with withdrawals) causing withdrawals to be in excess of profits. And of course Line of credit or overdraft coverage.

[Rapid Robert]

OK If I book this a capital gain, is it shown on the 1120s anywhere? Does the shareholder loan account get eliminated? Does it restore basis?

No, not shown as a pass-through capital gain on 1120S. The shareholder loan account gets "eliminated" although it should never have been called that if it was not a legitimate loan. No it does not restore basis, because basis is already zero. Basis cannot go below zero, as I recall.

"And if they can't pay it back? I call it capital gain, and then is it treated like a distribution on the books?"

Yes, on the books it is a shareholder distribution. Your tax software may automatically enter this on Form 1040 Schedule D because it knows the the shareholder basis at the beginning of the year and can figure out if distributions were in excess by the end of the year. I'm still curious where the funds came from in excess of basis to fund these distributions for personal expenses. Did someone lend money to the sole-sharenolder S-corp?

[equinecpa]

I think I would just smooth it all out it on this year's return, and not amend.

Shareholder needs to repay the loan. Have them do that.

If the corporation makes some distributions (such as an amount equal to the loan), that is a separate thing. And any distributions in excess of Basis are capital gain on the 1040.


And of course tell the client to STOP having the corporation pay for ANY personal expenses.

And if they can't pay it back? I call it capital gain, and then is it treated like a distribution on the books?

[Rapid Robert]

They have paid a reasonable salary to the sole shareholder but the payment of personal expenses has added up over time...

They don't have to pay a salary if the company is losing money. In fact they don't have to pay a salary if there are no distributions, but of course there were distributions.

[Rapid Robert]

If the shareholder could repay the "loan", they probably wouldn't have needed the distributions in the first place. (Which begs the question, how did they get the money in the first place with no basis?)

I don't think it's a good idea to try to retroactively characterize it as a loan. In an audit, the IRS can reclassify the amount as wages and assess penalties for unpaid payroll taxes.

Elements for a "good" loan:
1.) Note
2.) Note recorded in corporate minutes
3.) Reasonable Interest Rate
4.) Payments made on note
5.) Cancelled checks to prove payments were made per Note.

I agree that resolving it all in the current year makes sense.

[TaxGuyBill]

I think I would just smooth it all out it on this year's return, and not amend.

Shareholder needs to repay the loan. Have them do that.

If the corporation makes some distributions (such as an amount equal to the loan), that is a separate thing. And any distributions in excess of Basis are capital gain on the 1040.


And of course tell the client to STOP having the corporation pay for ANY personal expenses.

[equinecpa]

OK If I book this a capital gain, is it shown on the 1120s anywhere? Does the shareholder loan account get eliminated? Does it restore basis?

How far back would you go amending returns? This goes back 7 years..

[Rapid Robert]

What I do with a client in similar situation, is issue them a 1099-Div for all personal expenses.

Why would a S-corp issue a 1099-DIV? Distributions in excess of basis are treated as capital gains.

[MichaelDi09]

What I do with a client in similar situation, is issue them a 1099-Div for all personal expenses, exceeding their equity in business. You continue to ignore my recommendations, you will pick it up as dividend income.
They may complain but I'm firm with my stance on this. Good luck.

[equinecpa]

I have a new client who has no basis in S corporation (unprofitable business). They also have accumulated a balance due from shareholder to company for payment of personal expenses. At what point does this become income? They have paid a reasonable salary to the sole shareholder but the payment of personal expenses has added up over time...