S Corporation Loss Limitation Rules

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An S corporation is a business structure that allows its investors to claim earnings and losses on their personal income tax returns. Before you enter losses reported on a K-1 schedule from an S corporation into your personal tax return, you must be sure you have enough basis as a shareholder to claim the losses. Knowing how to determine your basis and how the current year's increases and decreases affect it will tell you whether you can claim all or part of the losses or whether they are suspended.

Beginning Basis

Your basis at the beginning of the first tax year is the sum of the amount you paid to buy stock in the corporation plus any additional paid-in-capital (money or property permanently given to the corporation) and loans you have made to the corporation that remain unpaid. In subsequent years, add all prior years' net income and deduct all prior years' net losses and any distributions you have received. This gives you your adjusted beginning basis for the current tax year.

Add Increases

Add any additional investment you have made in the corporation and any additional loans made directly to the corporation in the current year that remain unpaid. If the corporation owns oil or gas property, add any depletion in excess of the corporation's basis in the property.

Deduct Decreases

Deduct any reduction in loans you made to the corporation. You must also deduct any loans the corporation has made to you as a stockholder. Deduct any current-year distribution you received. Finally, deduct your share of the current year's losses as reported on your K-1. If your basis is less than your share of the net loss, you can only claim the amount of loss that brings your adjusted basis to zero. If your adjusted ending basis falls to zero before you subtract the net loss, you cannot deduct the current year losses. They are suspended and carry forward into subsequent years.

Distributions That Exceed Your Basis

Your adjusted basis can never fall below zero. If you have received distributions that exceed your adjusted basis, you must report the excess distribution as a capital gain on Schedule D of your tax return. The K-1 won't give this information. It is the result of your calculations. Shareholders are required to include an adjusted basis worksheet with the tax return each year. See Shareholders Instructions for K-1 in the resource section.

References

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