LLC sold in Q3 2017 - new owners reported all income

One of my clients bought a pizza shop in Feb 2017. Formed an LLC to be taxed as a sole proprietorship. He got the biz running steady then sold it to his nephew and an unrelated party in Sept 2017. This was a sale of my clients LLC interest so the LLC name and EIN went to the buyers. All the proper forms were filed with NYS and the Feds to change ownership and responsible parties.

My question feels really stupid, but the firm that handled the tax returns for the new owners are no slouches and were involved in the entire deal so what they did seems odd.

My question: When you sell your LLC interest, you still have to report the income and expenses for your part of the year right??? I am not missing some obscure rule or something am I ??

The reason for my question: The new owners opted to file the biz as an S-corp. For some reason, my clients have a copy of the 1120S and included it in their paperwork when they dropped off their data to me. The 1120S has a start date of Feb 2017, and has reported the income/expenses for all of 2017!

I would be really curious to see what beginning date the LLC put on its S corp election...
Did anybody ask your client if he would sign that election, as an owner/member/shareholder of the electing LLC?

Here's an excerpt from the Form 2553 instructions:

For an election filed on or after the effective date entered for item E, all shareholders or former shareholders who owned stock at any time during the period beginning on the effective date entered for item E and ending on the day the election is made must consent to the election.

I would think that "consent" might mean that they have to sign the election, but maybe not...

Sounds like someone/somewhere has things mixed up a bit - You posted - "Formed an LLC to be taxed as a sole proprietorship. He got the biz running steady then sold it to his nephew and an unrelated party in Sept 2017."

As a SMLLC - the activity while owned s/b reported on a Sch C (based on your post). Once your client SOLD the business, his interest ceased and he should be reporting the activity from inception until date sold. Your client may have provided the new owners with information as to it's operations but none of that should have been included in/as the new owners accounting or tax reporting.

New owners report their activity from the date they purchased the 100% interest until 12/31.

SMLLC has nothing to consent to - they no longer own any part of the business if he/she sold their 100% interest.

If the effective date of the S Election is during his period of ownership, he would need to sign the election. Since the S Election was filed late, there may need to be an additional signed statement from each s/h consenting to the election.

My guess is they pretended that he had no ownership, and the IRS is none the wiser.

Sound like he should have consented to the election and the 1120S should have been filed with him receiving a final K1, income reported to him for his period of ownership or pro-rata for days owned, whatever the parties agree to.

Facts needed, like was there really an S corporation election filed, and did the client/sole proprietor/seller of the business report his gain or loss from the sale of the business assets?

Additional facts needed :
1) Did you file a 2017 tax return for the period January 2017 thru September 2017 using sole proprietor Sch C ?. You indicate he is one of your clients during 2017 .
2) If not, did you file an extension on the form 4868 for 2017 year and when was it filed ?
3 Did the nephew who the business was sold to in September .2018 perform work January ,2017 thru September ,2017 as an independent contractor.

It sounds like the nephew and his tax practitioner are trying to take advantage of your good nature .Did you receive any compensation for the 2017 tax preparation . My gut feeling is that you did not prepare a tax return at all even though you state this is your client .

I would be really curious to see what beginning date the LLC put on its S corp election...
Did anybody ask your client if he would sign that election, as an owner/member/shareholder of the electing LLC?

Beginning date of S is the same as the start date, Feb 2017. No, my client did not sign anything related to the S-corp.

Sounds like someone/somewhere has things mixed up a bit - You posted - "Formed an LLC to be taxed as a sole proprietorship. He got the biz running steady then sold it to his nephew and an unrelated party in Sept 2017."

As a SMLLC - the activity while owned s/b reported on a Sch C (based on your post). Once your client SOLD the business, his interest ceased and he should be reporting the activity from inception until date sold. Your client may have provided the new owners with information as to it's operations but none of that should have been included in/as the new owners accounting or tax reporting.

New owners report their activity from the date they purchased the 100% interest until 12/31.

SMLLC has nothing to consent to - they no longer own any part of the business if he/she sold their 100% interest.

Yes, that was what I thought.....my client reports from Feb to Sept on Schedule C, then the new parties do whatever they do from then til 12/31. But again, this is a good firm and they were involved with the new owners during the purchase process. SO I was not expecting this at all. Thought maybe there was some election I was missing since the ownership period was less than a year.

The only thing that did cross my mind at some point was whether there would be any issues with payroll since I am using the same EIN as the S-corp. (my numbers won't match year end W-2's etc) I have not yet filed the personal returns for my client. They are on extension and always get refunds so they tend to drag their feet. I do however have the SMLLC schedule C done as I received the QB file in probably Nov 2017, so as soon as I got my software installed I put that part of the return together. Their return has been sitting since waiting for the rest of their info to come thru....which I now have.

If the effective date of the S Election is during his period of ownership, he would need to sign the election. Since the S Election was filed late, there may need to be an additional signed statement from each s/h consenting to the election.

My guess is they pretended that he had no ownership, and the IRS is none the wiser.

Sound like he should have consented to the election and the 1120S should have been filed with him receiving a final K1, income reported to him for his period of ownership or pro-rata for days owned, whatever the parties agree to.

Yeah I thought about that too, but my client states there is nothing that came up after the sale that he was asked to sign. I have a copy of all the paperwork he signed at the closing and there is no 2553 in there. By the time the end of the year had rolled around it was questionable as to how well the new owners were going to do. So even if the CPA firm asked him to sign anything for a late election, he would have refused.

Facts needed, like was there really an S corporation election filed, and did the client/sole proprietor/seller of the business report his gain or loss from the sale of the business assets?

I can't answer the first part, but the second part is yes. I have a Schedule C return prepared.

Additional facts needed :
1) Did you file a 2017 tax return for the period January 2017 thru September 2017 using sole proprietor Sch C ?. You indicate he is one of your clients during 2017 .
2) If not, did you file an extension on the form 4868 for 2017 year and when was it filed ?
3 Did the nephew who the business was sold to in September .2018 perform work January ,2017 thru September ,2017 as an independent contractor.

It sounds like the nephew and his tax practitioner are trying to take advantage of your good nature .Did you receive any compensation for the 2017 tax preparation . My gut feeling is that you did not prepare a tax return at all even though you state this is your client .

1 - Not yet filed, but prepared.
2 - Yes, extension filed for the personal returns.
3 - Yes, the nephew and the other party were both employees of the original owner (my client) and yes, they were actually on payroll.

And yes, the return is prepared just not yet filed.

Thanks to all for confirming I am missing some obscure election or something.

I do know my client turned over their QB file to the new owners because it had all the data in it to move forward. All the vendors were set up, the balance sheet was in place, etc. The new owners took over everything....bank accounts, leases, everything. Basically stepped into the prior owners shoes.

The CPA firm was picking up the bookkeeping as well as the tax returns for the new owners. The new firm must not have created a new QB or someone forgot to only do the P & L and Balance sheet from the Sale date to year end. It is the only thing that makes sense at this point. Heavy Sigh.

End of the day, I am moving forward with my reporting on the Schedule C for inception to the Sept sale date.

Agree with Michaelstar.

But again, this is a good firm and they were involved with the new owners during the purchase process. SO I was not expecting this at all. Thought maybe there was some election I was missing since the ownership period was less than a year.

Doesn't matter how good the firm is if there's a miscommunication. Garbage in = garbage out. Maybe the nephew and new owner told them something incorrectly or there was an internal miscommunication if they received the whole bookkeeping file and just picked up where prior owner left off.

Regardless, your client should pick up inception to sale on Sch C as laid out above. They new owners get sale to end of year. It's the new owners who are getting shafted here...unless the business was running at a loss up to the sale. Then the inclusion becomes more explainable (fraudulent, but explainable).

Agree with Michaelstar.

But again, this is a good firm and they were involved with the new owners during the purchase process. SO I was not expecting this at all. Thought maybe there was some election I was missing since the ownership period was less than a year.

Doesn't matter how good the firm is if there's a miscommunication. Garbage in = garbage out. Maybe the nephew and new owner told them something incorrectly or there was an internal miscommunication if they received the whole bookkeeping file and just picked up where prior owner left off.

Regardless, your client should pick up inception to sale on Sch C as laid out above. They new owners get sale to end of year. It's the new owners who are getting shafted here...unless the business was running at a loss up to the sale. Then the inclusion becomes more explainable (fraudulent, but explainable).

Yes, even good firms can make mistakes, but this one really caught me off guard. There are so many elections and rules when it come to entities, I just wanted to be sure I was not the one making the big mistake. The more I think about this, some junior accountant at the firm probably put together the return and was not informed of the situation. Not my issue though. I wil bring it up to my clients but what they do with the info is up to them.

The business was showing a small profit when sold, but according to the 1120S, reported a 7000 loss overall.

Thanks again to all...

How did the new owners get the financial information to prepare tax return for the whole year? I can't imagine the previous owner turning over the books and accounts to him. I have not been involved in a sale of SMLLC, is that typically part of the deal?

Might be time to disengage from completing the personal return. If I understand it, you filed the extension in good faith as you apparently always do . Your ready to file the return with your portion which includes a Sch C thru September and apparently a K-1 for the entire year reported under an S-corp provided by a new accountant . You can't file this return with the knowledge you have . If you do you would be reporting income and expenses twice . This sounds pretty close to a fraudulent return if you go forward with the information in your possession .

I'm probably oversimplifying this but I think you have 2 choices . Obtain a corrected K-1 for the S-Corp that reflects only the activity from September thru December or disengage . Maybe your client should engage the new accountant and let them prepare both the personal return and the S-corp as they see fit and then your out of the picture with no contingent liability issues.

Might be time to disengage from completing the personal return. If I understand it, you filed the extension in good faith as you apparently always do . Your ready to file the return with your portion which includes a Sch C thru September and apparently a K-1 for the entire year reported under an S-corp provided by a new accountant . You can't file this return with the knowledge you have . If you do you would be reporting income and expenses twice . This sounds pretty close to a fraudulent return if you go forward with the information in your possession .

I'm probably oversimplifying this but I think you have 2 choices . Obtain a corrected K-1 for the S-Corp that reflects only the activity from September thru December or disengage . Maybe your client should engage the new accountant and let them prepare both the personal return and the S-corp as they see fit and then your out of the picture with no contingent liability issues.

OP's client will not receive a K-1. The client's nephew and business partner will. Income will not be reported twice on OP's client's return.

How did the new owners get the financial information to prepare tax return for the whole year? I can't imagine the previous owner turning over the books and accounts to him. I have not been involved in a sale of SMLLC, is that typically part of the deal?

Client gave them a copy of the QB file.

I do know my client turned over their QB file to the new owners because it had all the data in it to move forward. All the vendors were set up, the balance sheet was in place, etc. The new owners took over everything....bank accounts, leases, everything. Basically stepped into the prior owners shoes.

How did the new owners get the financial information to prepare tax return for the whole year? I can't imagine the previous owner turning over the books and accounts to him. I have not been involved in a sale of SMLLC, is that typically part of the deal?

River - No it is not normal for the QB file to be exchanged. But, one of the new owners is the nephew of my client ( original owner ). I can't remember the exact series of events now since it was a year ago, but I know my client gave the nephew the QB file he had been using. I know the nephew eventually hired the CPA firm to do the bookkeeping . SO if the CPA firm used the existing QB file, then that is on them. If it were me, I would have started a new file and used the old one to export all the list info and the chart of accounts and then tossed it. As ManVsTax stated, somewhere along the line there was miscommunication at the CPA firm.

Might be time to disengage from completing the personal return. If I understand it, you filed the extension in good faith as you apparently always do . Your ready to file the return with your portion which includes a Sch C thru September and apparently a K-1 for the entire year reported under an S-corp provided by a new accountant . You can't file this return with the knowledge you have . If you do you would be reporting income and expenses twice . This sounds pretty close to a fraudulent return if you go forward with the information in your possession .

I'm probably oversimplifying this but I think you have 2 choices . Obtain a corrected K-1 for the S-Corp that reflects only the activity from September thru December or disengage . Maybe your client should engage the new accountant and let them prepare both the personal return and the S-corp as they see fit and then your out of the picture with no contingent liability issues.

Luckyo.....respectfully, you missed something along the way. There is NO K-1 for my client and in no way would I file a return that counts the same income twice. (I may be clueless at times, but I'm not that clueless! ) I think the confusion comes from me stating MY CLIENT has a COPY of the 1120S that was filed. I have no clue as to WHY they have this and they don't either. The nephew gave it to them and they just added it to the stack of stuff to come to me since it was "tax related".

1120S has total number of shareholders is 2 ( the nephew and the other person). The only K-'s are for these two people and the ownership adds to 100%. Again, there is no reason for my clients to even have this information and the nephew is clueless so no sense in asking him why he gave it to my client.