Deducting S Corporation Losses

February 3rd, 2021 at 7:32 AM

2020 was a difficult for certain businesses.....I am being asked by these clients who are structured as S Corporations, how they can utilize their losses. This article addresses this issue.

S Corporations are "flow-through" entities meaning income, deductions, credits and other activity are allocated to the shareholders to be reported on their individual tax returns. When shareholders are allocated losses from the S Corporation they can use the losses to offset income from other sources--if the losses pass 3 tests. The first test is stock basis, which is the subject of this article.

Test 1--Stock Basis

A shareholder's initial stock basis is determined by how they acquire their interest in the S Corporation---that is the money and other property a shareholder contributes to start the business or amount paid to purchase the shares of the corporation. Increases to this initial basis from additional capital contributions, personal loans to the corporation, and income allocated to the shareholder; decreases are a result of distributions, repayment of loans, and losses allocated to the shareholder.

If a shareholder has a stock basis in excess of their loss at the end of the year, they pass the 1st test.

This is the first series of articles on this complicated area of the tax law.

Mark S. Fineberg, CPA