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How do I report no income but distributions for a 1120S shareholder's final K-1?

david3
Level 7

Two shareholders of several S Corps parted ways in 2020. There are 3 S Corps - my client was left with one of the S Corps and the other shareholder was left with the other two S Corps. Both were 50% owners of each entity.

Of course I didn't find out about this until after the fact. The attorney drew up the transfer/sale of stock between the shareholders with an effective date of January 1, 2020. All parties agree that no profit will be allocated to the departing shareholder in 2020 - all agree that the true transfer date is midnight December 31, 2019. My thinking is that if the agreement is effective January 1, 2020 then there should be one day of profit allocated to the departing shareholder. Even the attorney agrees that the intent is no profit allocation in 2020.

The departing shareholder for the entity that I am preparing the tax return received a distribution in the first quarter of 2020, which is not proportionate to her ownership interest. 

My client received a K-1 from the two entities that he has transferred his shares. The K-1 show zero income and reports distributions.

When preparing the 1120S for my client, PS only allows me to enter 1/1/20 as the final date for the departing shareholder. PS then allocates one day of profit to this shareholder. 

How do I get PS to report the K-1 with zero income and a distribution to the departing SH? Of course this will create a problem between the parties if the K-1s aren't reported in the same manner.

Also, for my client, I am thinking that whatever final distribution he received would be considered payment for his shares in the other entities and the difference between his basis and the amount he received will be reported as a loss from sale. Is this correct?

Thanks for your help.

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12 Replies 12
sjrcpa
Level 15

They are making a cut off the books election. At 12:01 AM on January 1 it would be reasonable to assume there is no year to date profit or loss.

In Lacerte we have to override the K-1 numbers when the election is made. Not sure how you do it in ProSeries.


ex-AllStar
dkh
Level 12

ProSeries will require an override of K-1 numbers

david3
Level 7

Thank you.

When I override the numbers then will I still be able to e-file the return? It seems as though whenever I try to override anything then I get e-file errors.

Do I simply uncheck the box to check for e-file errors and then the tax return will be e-file accepted?

Thanks.

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sjrcpa
Level 15

You may need to attach a Section 1377(a)(2) election statement, too.


ex-AllStar
qbteachmt
Level 15

Are you describing that the leaving shareholder (in each entity) who was no longer a shareholder also got a distribution, as if they are being bought out of their own entity with their own basis?

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david3
Level 7

I'll have to make sure but it appears that is what they are doing. Unless, the distributions were already made before the transfer/sale agreement was prepared and signed. Remember, the agreement was prepared after the first quarter and backdated for the effective date of the transfer/sale.

I'm thinking the latter is the case but I will double check. 

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david3
Level 7

Each departing SH transferred their stock to the remaining SH. A distribution was made to my client from the entity he departed. No distributions were made from the other 2 entities to the other SH since those entities incurred losses and there were no funds available to pay distributions. 

 

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david3
Level 7

I need to correct my last posting -

The other SH did receive a $8K distribution from the entity that my client is now the remaining SH. This was a normal distribution paid early in the year before the sale/transfer agreement was prepared.

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qbteachmt
Level 15

"This was a normal distribution paid early in the year before the sale/transfer agreement was prepared."

It's pretty hard to follow without the paperwork, but it seems all of these people bought out each other by swapping "shares of some value in other entities," because you don't get bought out with distributions. A true buyout would entail valuing the business, and then paying each other for their share(s), which means gain or loss on the sale(s). And, of course, knowing if this is entity sales or asset/liability sales.

It's like they had a big swap meet.

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david3
Level 7

Yes, they transferred (swapped) shares in each of the entities.

Given that, then there is no gain or loss to be recorded on the SH's personal tax return? What happens to the remaining basis my client has in the S Corp he departed? Does it disappear or does he recognize a loss on his personal tax return?

Thanks.

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david3
Level 7

"You may need to attach a Section 1377(a)(2) election statement, too."

PS appears to do the correct allocation - zero loss to the departing SH and 100% loss to the remaining SH. I didn't have to override the K-1. I only had to indicate 0% ownership on the SH information for the departing SH. Also, I was able to change the calculated distribution to the actual amounts of distribution at the bottom of the K-1 worksheet.

Since the effective date was midnight on day one is it still necessary to attach a Sec. 1377(a)(2) election statement?

Thanks.

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qbteachmt
Level 15

"Given that, then there is no gain or loss to be recorded on the SH's personal tax return?"

I don't know if you are asking about capital gain/loss, or operational gain/loss. Sorry.

Everything needs to be valued, then compared in the "swap" the same as if there was buyout, because the Shares traded were used instead of Funds. The distributions are not the buyout, unless perhaps someone got more Funds than they had basis.

It's really a bit too much to break down in the pieces via the internet, and without all the details. You stated an attorney drew up the transfer(s), so someone valued something, to know what to trade out and what that was worth in comparison.

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