Debt Basis S Corp: Everything You Need to Know
Measuring a debt basis of an S corporation is complex, but important for certain tax purposes.3 min read
Debt Basis S Corporation
Measuring a debt basis of an S corporation is complex, but important for certain tax purposes. S Corporations are those entities that have less than 100 shareholders and can choose to be taxed as a partnership, rather than a corporation. The tax benefits of a partnership include only being taxed once on the year’s profits, where the shareholders pay tax on their portion of the partnership’s earnings.
What is a Basis?
A basis is a measure for taxing shareholder transactions with the corporation. Each shareholder in an S corporation has a “basis” which measures their after-tax investment in the corporation. Each year, the corporation issues a Schedule K-1 to each shareholder, which includes the corporation’s income, loss and deduction that are owed to that shareholder.
A Schedule K-1 will not include the distribution amount that will be taxed. That number depends on how much stock the shareholder owns in the corporation. The corporation itself is not responsible for keeping track of a shareholder’s stock and debt basis. Rather, the shareholder’s public accountant should determine basis each year to prep for their personal tax returns.
It is important for a shareholder to track his or her basis for a number of reasons:
• To determine gains or losses on any stock sale;
• If the corporation owes any losses to a shareholder, to determine the loss amount the shareholder can use and how much must be suspended or carried over;
• To determine which distributions from the corporation are taxable.
It is advisable that a shareholder, especially those in small S corporations, obtain some sort of tax preparation before the end of a year.
What is a Stock Basis?
A stock basis is measured based on how much the shareholder invested in the corporation. To calculate a stock basis, you must first know how much money and property the shareholder contributed to the corporation when he or she started employment. Every year thereafter, the stock basis increases by the amount of income—including regular income, tax-exempt income, and excess depletion—the shareholder reports on his or her taxes. The stock basis decreases by the shareholder’s share of the corporation’s losses as well as nondeductible expenses. Furthermore, any additional expenses the shareholder transfers to the corporation will increase his or her basis, and any expenses the stockholder gets from the corporation will decrease his or her basis.
The proper order for determining a stock basis is the following:
1. Increase basis by income (general, nonexempt, etc.). This should be reported on the Schedule K-1 form.
2. Decrease basis by the amount of cash and property the corporation distributed to the shareholder. This should be reported on the Schedule K-1 form, box 16, code D.
3. Decrease basis by the nondeductible expenditures
4. Decrease basis by all deductible losses and deductions report on the Schedule K-1 form.
What is a Debt Basis?
Measuring a shareholder’s debt basis is similar to measuring a stock basis. To calculate a debt basis, you take the original amount the stockholder loaned to the corporation and increase his or her basis for that loan and any additional loans he or she provided. Then, the debt basis will decrease when the corporation pays off any of that debt or if the stockholder’s share of the corporation’s losses is larger than his or her shares.
The proper order for determining a debt basis is the following:
1. Begin with the original loan granted to the corporation
2. Increase basis by the loans made to the corporation, including interest
3. Decrease basis by any payments the corporation made on the loan
4. Decrease basis by any losses or deductions that were larger than the shareholder’s basis of shares.
A few things to keep in mind when calculating a debt basis:
• A basis can never be decreased to an amount below zero.
• Losses can be carried over into future years
• If no debt exists at the beginning of the year, then the basis amount at the beginning of the year is zero, which can then be adjusted by any losses or deductions from previous years.
If you need help with determining your debt or stock basis, you can post your legal need on UpCounsel’s marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.