how to show excess distributions taxed as LTCG on S-corp

assume it was not previously an c corp. Previously parked as a loan to owner, but now we are going to make the owner pay LTCG on at least 100k. So, retained earnings are already negative. Seems like the proper treatment is to show it on M-2 and it eventually closes to retained earnings, driving it further negative. But should it be in the AAA column of M-2?

How would you show the excess distribution, that has been taxed on the owners personal return, on the Balance sheet of the S-corp.

Yes, M-2 and retained earnings. The same way that distributions not in excess of basis are shown. My question would always be where did this extra money come from?

assume it was not previously an c corp. Previously parked as a loan to owner, but now we are going to make the owner pay LTCG on at least 100k. So, retained earnings are already negative. Seems like the proper treatment is to show it on M-2 and it eventually closes to retained earnings, driving it further negative. But should it be in the AAA column of M-2?

How would you show the excess distribution, that has been taxed on the owners personal return, on the Balance sheet of the S-corp.

It would be reported in the AAA column of the M-2 to the extent that (ignoring any net negative adjustment in the year) it doesn't take AAA below zero. This could very well create a permanent retained earnings/AAA difference on your books.

Ok...agree that you can't take AAA below zero. How about the other 2 columns of the M-2? (by the way...the owner increased company debt balances by using the company credit card and line of credit for personal expenditures...that is where the money came from)

Ok...agree that you can't take AAA below zero. How about the other 2 columns of the M-2? (by the way...the owner increased company debt balances by using the company credit card and line of credit for personal expenditures...that is where the money came from)

I would be much more inclined to put that on the books as a loan receivable shareholder than a distribution in excess of basis.

I show it in the column labeled "unappropriated retained earnings/timing differences". This is where my software puts it as well.

Ok...agree that you can't take AAA below zero. How about the other 2 columns of the M-2? (by the way...the owner increased company debt balances by using the company credit card and line of credit for personal expenditures...that is where the money came from)

OAA, the second column, is for nontaxable income. My clients typically have no OAA balance or a negative one caused by officer life insurance premiums.
PTI, the third column, is for pre-1983 retained profits. I think I've seen that column used (correctly) once.

The sum of the M-2 ending balances need not equal retained earnings/(deficit). As with Seaside CPA, my software allows me to track and reconcile the differences between the M-2 and Retained Earnings as if it was a separate column.

Does the taxpayer/S-corp owner get a step up in basis once we have reported the chosen excess distributions as LTCG?

Step=up in what asset? He either got cash, the basis of which is its face value, or property, the basis of which is its FMV.

I think he means basis in the S-corp?

Well, I guess he could consider only reducing his basis in the S corp. stock to zero (as opposed to a negative number) as being tantamount to a step-up. I don't.

Individual's tax entries, if he kept tax books, would be as follows, if we assume previous basis of 100, previous loan to s/h (or receivable from s/h) 150, now treated as distributed.

Debit loan payable 150
Credit stock basis 100
Credit gain 50

So if he feels better, he can call the new stock basis of -0- a step-up from one of negative 50. I wouldn't.

So if he feels better, he can call the new stock basis of -0- a step-up from one of negative 50. I wouldn't.

But what if he *doesn’t* report that “distribution in excess of basis” as a taxable capital gain on his 1040…and what if confetti is thrown out because the SOL closes. What would his basis be at the beginning of the first open year: Would you still say his basis is $0…or is it negative $50? What if in the first open year there was a $10k profit and a $10k shareholder distribution: Is that $10k distribution non-taxable [$0 opening basis + $10 profit - $10 distribution = $0] or is the $10k taxable [-$50 opening basis + $10 profit = -$40…with the result that the $10k distribution is taxable because it’s in excess of basis]?

Aha, negative basis found at last! Maybe. Let's try to answer Jeff's #13.

Section 1367(a)(2)(A) tells us to decrease his basis (but not below zero) by distributions which were NOT includible in his income by reason of section 1368. That would be the 100 portion of the 150 distribution, because it is not includible by reason of 1368(b)(1). Later, in 1367(b), we find a "special rule" that tells us that the

(1)basis of each shareholder’s stock in an S corporation shall be increased for any period by the sum of the following items determined with respect to that shareholder for such period:
(A) the items of income described in subparagraph (A) of section 1366(a)(1) only to the extent such amount is included in the shareholder’s gross income on his return, ...

. So is this an "aha" moment, because in Jeff-Ohio's question the individual did not include the gain on distribution in his income? Wait! The omitted gain (or income) in Jeff-Ohio's example was NOT includible in income by reason of 1366(a)(1)(A); rather it was includible by reason of 1368(b)(2), so that "special rule" seems not applicable. The required decrease (but not below zero) WAS made, getting his basis to zero.

All my career I've been told there is no such thing as negative basis, and here appears to be no exception to that rule. Now I get to wondering if the tax handling somehow gets into COD income, i.e., the 150 loan was not distributed, it was forgiven. Where would that theory take us, in light of the SOL being closed for the year involved? If COD does not apply here, did that gain of 50 in the entry in #12 just not get taxed ever, since the SOL closed, or is there some non-Code concept involved, such as a duty of consistency, or estoppel, or whatever?

Wouldn't there be an issue with the company essentially financing the Shareholder's distributions in excess of basis? Essentially, the Interest expense on those distributions should be non-deductible, and considered as a shareholder draw as well.

Wouldn't there be an issue with the company essentially financing the Shareholder's distributions in excess of basis? Essentially, the Interest expense on those distributions should be non-deductible, and considered as a shareholder draw as well.

Many publicly traded companies distribute dividends or buy back shares using essentially borrowed money and it isn't an issue for them.