Discussion:S Corporation Basis
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Discussion Forum Index --> Tax Questions --> S Corporation Basis
Fort Wayne CPA (talk|edits) said: | 6 January 2011 |
| I have a "hopefully" simple question about the debt basis of subchapter S corporations. I am having a "discussion" with an IRS agent about the use of credit card debt as debt basis.
Let's say an S corporation started on 1/1/10 and the shareholder deposited $1000 into the business bank account as a capital contribution. The company is owned by one owner and that owner has several personal credit cards in their name. The owner has one Chase credit card with a zero balance on 1/1/10. During 2010 the company spent $5000 on advertising expenditures and all were charged on the personal Chase credit card. No personal expenses were put on the Chase credit card The card charged no interest in 2010. Further another $1000 in advertising expenses were purchased with funds from the corporate bank account, it has an ending balance of zero. The company had no income or other expenses in 2010. I think the shareholder had a stock basis of $1000 and a debt basis of $5000. The company lost $6000 in 2010 due to advertising expenses. I think the shareholder can write off the entire $6000 loss on the 2010 personal tax return and on 1/1/11 they have a stock basis of zero in their S corporation and a debt basis of zero in the corporation. What do you think? Mike | |
| 6 January 2011 | |
| I agree with you because the credit card wasn't issued to the corporation as borrower, but to the shareholder. If it were a corporate credit card, I'd change my answer. | |
Fort Wayne CPA (talk|edits) said: | 7 January 2011 |
| Kevinh5,
Do you know of any definitive sources that can be used to back this up with the IRS? I have always felt that if the credit card was personal it should count. Mike | |
| 7 January 2011 | |
| See the discussion of "Business expenses paid out of pocket" at http://www.traderstatus.com/partnershipagreement.htm There are good citations I don't have time to cite in detail. | |
Fort Wayne CPA (talk|edits) said: | 7 January 2011 |
| Szptax,
His position is that the credit card expenses do not count as debt basis because an "economic outlay" did not occur. Mike | |
| 7 January 2011 | |
| I am trying to understand the agent's position. Is the liability (payable) for the credit card balance included as a liability on the corporation's balance sheet? If so, then the agent is probably confused and looking at it as a purely corporate debt, even though the card is in the shareholder's name. If this is the case, help him out by changing the description of the account on the balance sheet to Loan Payable - Shareholder. | |
| 7 January 2011 | |
| I think the agent is "green" and uninformed. Push it further up if you need to. | |
Plainfacts (talk|edits) said: | 7 January 2011 |
| I am paying close attention to the various responses on this case...this has always been a very confusing and least understood section in Sub S corporation tax return for me, I will like to know if there is a good seminar, webinar or manual that I can purchase that deals with loss deductions vis-a-vis Sub S Basis | |
Seaside CPA (talk|edits) said: | 7 January 2011 |
| I think this is a very gray area. Sounds like the shareholder is using this like a corporate credit card (no personal expenses were put on it), which would not give any basis (even though the card is issued in the individual's name). Similar to if shareholder guaranteed a loan for the corporation, it would not give him any basis. In order to obtain basis, I always have shareholder deposit personal funds into corporate account (he can draw a cash advance off of personal credit card, put into personal account, then write personal check to corporation.) This way, there has actually been an economic outlay. | |
| 7 January 2011 | |
| I see a credit card in the name of the sh as a personal obligation - a loan the shareholder took (like any personal loan) & then loaned to the company. Perhaps it would help to have some written documentation when this occurred or a note in the minutes of the corporation regarding how the company & shareholder will handle this? Who paid off the credit card? The corporation or the shareholder? | |
| 7 January 2011 | |
| I don't see this as a tough issue. A personal credit card is clearly a legal obligation of the individual and its use for corporate expenses thus gives the shareholder basis. Seaside, there is no requirement that the card also be used for personal expenses. You can categorize the expenses paid by the shareholder via the credit card as either a shareholder loan payable or as additional paid in equity. Either would give you basis. | |
Harry Boscoe (talk|edits) said: | 7 January 2011 |
| But don't ignore the "economic outlay" concept. There were a coupla court cases many years ago in which the court - unenlightened, or perhaps bribed by the gummint - created this limitation to the basis created in an S corp for .. oh, I'm sorta winging it now .. paper transactions that didn't really make money come out of the shareholder's pocket so's we clever accountants couldn't do things like booking the contribution of the shareholder's comic book collection to his S corporation to create basis for the shareholder...
Actually I think IOU/UOMe's were the suspect transaction. And maybe "transfers" were involved, too. Like the shareholder had lent a lot of money to his C corporation and then when his S corporation was running out of basis he arranged to 'move' the IOU from the C corp to the S corp but the Tax Court wasn't to be fooled, they *knew* the *real money* had gone into the C corp and therefore *couldn't* get into the S corporation so the 'move' of the IOU had to be defeated somehow, and thus the requirement for "economic outlay" was fabricated .. out of thin air, some would say .. by the Court to screw the shareholder by denying him the tax basis to deduct the losses. He didn't really put anything into the S corporation, he made no "economic outlay" said the Court. Can a memory be faint but vivid at the same time? That's how PBR works in the morning!! | |
Harry Boscoe (talk|edits) said: | 7 January 2011 |
| I'll look at it if you'll link to it... Thanks. | |
| 7 January 2011 | |
| Here is the MSSP on Shareholder loans. http://www.pro1040.com/IRS%20mssp/shareholder_loans.pdf No time to link the former, presumably it is on UncleFed.com. | |
Harry Boscoe (talk|edits) said: | 7 January 2011 |
| And sometimes there are Fellows you can trust. Try his article at [[1]] | |
| 7 January 2011 | |
| Everyone needs to print Harry's article link and keep it with their S Corp CPE material for future reference. | |
Seaside CPA (talk|edits) said: | 7 January 2011 |
| Mark, I didn't say the card HAD to be used for personal expenses. If this card was being used as a company credit card, and the payment to the credit card company was actually paid by the corporation, or had not been paid by anyone by year-end, I don't see how this would give the shareholder any basis. Really don't have enough info from OP. OP needs to answer SZP's questions as to how it was paid back. | |
Fort Wayne CPA (talk|edits) said: | 10 January 2011 |
| Ilini,
The agent is very experienced and in my opinion pretty "sharp." Kevinh5 and MarkSC, Your responses are very similar to the view that I have always held on this issue. Seaside CPA, Your response is very similar to that of the agent. SZptax, The corporation is paying off the credit card. Mike | |
| 10 January 2011 | |
| Is there any precedence or specific language in the regs concerning the fact that the corporation is making payments on a CC owned by the S/H? Isn't the corporation constructively paying the S/H for the personal loan from the CC which the S/H in turn loaned to the corp? I perused the MSSP but it seemed like the language was always centered around the CC being held by the corp and not by the S/H. | |
Seaside CPA (talk|edits) said: | 10 January 2011 |
| Sorry, Fort Wayne, I have to agree with the agent on this. Shareholder is out no money, never put anything into the corporation. Why should he get additional basis? In this case, it's just as if shareholder guaranteed loan (this does not give rise to basis). As Harry stated above, there are alot of court cases out there regarding this. There has to be an actual economic outlay from the shareholder in order to get debt basis. | |
Harry Boscoe (talk|edits) said: | 10 January 2011 |
| "In this case, it's just as if shareholder guaranteed loan..." There's a few of us who would disagree with this observation. There's *no* liability of the corporation to anybody other than the shareholder, as we see it. And the shareholder is primarily - maybe even solely - liable on the credit card debt.
This "economic outlay" idea is described in the literature - maybe in the court cases also, I haven't read them in several years if even did read them - as a "doctrine". That makes it, in my mind, much less than a law or rule, but something that might be considered if the facts were right, and if it were needed, which isn't the case here. The agent has been reading too much and is challenging what are simple daily transactions pretty much in the ordinary course of running a small business. Lucky, aren't we, that the credit card is in the shareholder's name. And only in his name... On the other hand, I wonder how the liability account on the corporation's book is titled. "Credit Card Debt - Due to VISA" maybe? Oops. | |
Seaside CPA (talk|edits) said: | 10 January 2011 |
| Harry, that's pretty much my point. The shareholder is liable for the debt, but until he makes payment on it, it does not create any basis. | |
| 10 January 2011 | |
| The credit card is not the same as a guarantee for the simple reason that the law looks not to de facto issues like who is making the payments, but rather to the simple legal question of who has signed the note. If it is the shareholder, there is basis. Period. Conversely, if every indication is that a note is a personal note except for it being issued in the corporation's name, there is no basis. This is one issue where form controls over substance. How is the credit card any different from a bank loan signed by the shareholder but issued to (and repaid by) the corporation? There is clear authority for that being a loan that gives the shareholder basis. | |
| 10 January 2011 | |
| The article linked above is well worth a read. I think the confusion that some people may have is that the economic outlay doctrine relates the the circumstance where the bank looks to the corporation as the one legally on the hook for the loan but the shareholder has taken over payments or otherwise makes an economic outlay arguably giving him basis. That is a circumstance where the courts do sometimes look the substance of the transaction. However, the converse is not true. That is, if the loan is made to the shareholder who then contributes the funds to the corporation as a capital contribution, there is no authority that I know of that would allow IRS to treat that as other than creating basis. There is no "reverse economic outlay" doctrine if you will. In our credit card situation, the shareholder's outlay is that he is legally liable for the debt and the corporation is not. That is the preferred outlay for creating basis. Only if that doesn't occur are taxpayers forced to resort to alternative arguments for trying to convert a guarantee or co-note to a transaction creating basis. | |
| 10 January 2011 | |
| In Rev. Rul. 75-144, IRS allowed the taxpayer to obtain debt basis in the year the bank agreed to substitute the shareholder for the corporation on the note--even though the corporation continued to make payments on the note. Thus, the only economic outlay was the shareholder being legally responsible for the debt. IRS did not require the shareholder to make payments. | |
Fort Wayne CPA (talk|edits) said: | 11 January 2011 |
| I will keep everyone updated on this. I pretty much got the answers I expected. I expected the "professional community" to be somewhat split on the issue and that is the case...
Personally, I think that in this situation the credit card does create debt basis. Now we need to convince the IRS agent of this. We have done a fair amount of research about this and I now know more about debt basis then I did a few weeks ago. Thanks for the replies and thoughts from all of you! Mike | |
Seaside CPA (talk|edits) said: | 11 January 2011 |
| Mark, I have to disagree with you that there is clear authority on the loan signed by the shareholder but issued to (and repaid by) the corporation. If handled properly, this could, (just like the credit card) provide basis. From all I have ever seen, & been taught, the loan would need to go directly to individual, individual would have to then make the loan to the corporation (economic outlay), with everything recorded on corporate books properly, in order to obtain basis. If any of these steps are eliminated, or not done, IRS MAY disallow it as far as providing basis, just as they are trying to do in the above case.
Good luck Ft. Wayne, & keep us posted! | |
