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Troubleshooting individual critical diagnostic ref. 3605 for MFJ return (Sch SE)

SOLVEDby IntuitLacerte Tax13Updated July 26, 2021

The following critical diagnostic is generating in Lacerte:

Schedule C #x: If taxpayer and spouse jointly own and operate a business, they are considered partners in a partnership and should file a partnership return. However, an election may be made under IRC Section 761(f) to file two separate Schedule's C instead of a partnership return. All income and expense items must be allocated to each taxpayer according to the ratio of ownership. If you wish to make this election, a second Schedule C and related forms must be entered in the program to follow the reporting guidelines. However, taxpayer's that wholly own a business as community property under the community property laws of a state, foreign country, or U.S. possession, may treat the business as a sole proprietorship or partnership. Refer to Schedule C and/or IRS Publication 541 for more information. (ref. #3605)

Why is this diagnostic generating?

If the taxpayer's resident state isn't a community property state, you must file the return either:

  1. As a partnership or with separate Schedule Cs, or
  2. With income and expenses allocated to each taxpayer's own Schedule C based on the taxpayer's percent of ownership.

If the resident state is a community property state (AZ, CA, ID, LA, NV, NM, TX, WA, or WI), you can file the return in three ways:

  1. MFJ with income and expenses allocated to each taxpayer's own Schedule C (and related forms) based on the taxpayer's percent of ownership
  2. Partnership
  3. Proprietorship with a single Schedule C indicated as taxpayer or spouse—not joint
 

Refer to IRS Pub 334 for more information about qualified joint ventures and community property states.

Instructions for residents of community property states electing Schedule C as a proprietorship

Follow these steps to split the self-employment tax between the taxpayer and the spouse:

  1. Go to Screen 45, Other Taxes.
  2. Select Self-Employment Tax (Sch SE) from the left navigation panel.
  3. Scroll down to the Self-Employment Tax (Sch SE) section.
  4. Locate the Nonfarm subsection.
  5. In the Taxpayer column, enter the spouses' allocated amount as a negative amount in Net income [A].
  6. In the Spouse column, enter the spouses' allocated amount as a positive amount in Net income [A].

The program will generate two Sch SE forms—one each for the allocated amount (typically 50/50) without doubling the amount on Sch SE, line 2 for the taxpayer.

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