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S Corp Officer took no salary but did take distributions


David

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I just received an S Corp's books late last week and am beginning to prepare their 1120S.

I just found out that the S Corp officer didn't take a salary in 2017 but did take $55K distributions. This is the first time the officer didn't take a salary.

At this late date I'm wondering how best to handle this. 

I'm thinking I could report the distributions on the officer's 1040 Sch C so that the SE tax is reported. Also, report the distribution amount as a negative Other Income on his 1040 line 21 since the S Corp profit will be reported on the K-1.

For those of you who have had this situation - is there a better way to handle this?

Thanks for your help.

 

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The only other thing I can think of (since it's a bit LATE to do a retroactive payroll for 2017; why do our clients do this stuff to us?), is to write up the explanation now of why, for this one year, he didn't take a salary when obviously there were funds to pay him.  Don't send it in yet - but write it up when it's fresh, so that when (not if) you get the letter from the IRS about it, all you'll have to do is tweak it a bit, fix the date, and send it.  'Cuz otherwise by the time the letter shows up all the details will be foggy.  For both you and your client.

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4 hours ago, David said:

I'm thinking I could report the distributions on the officer's 1040 Sch C so that the SE tax is reported. Also, report the distribution amount as a negative Other Income on his 1040 line 21 since the S Corp profit will be reported on the K-1.

That's creative and something I'd suggest not to do; he isn't self-employed. You should report what actually took place, not what he'd like it to be or some fabrication to keep him out of trouble.

I would look closely at those distributions to see if they are the same amounts as his net paychecks were in prior years.  In other words, was he paying the paychecks and not recording them properly in the books and not filing and paying the payroll taxes?  Or did he do this himself instead of having a bookkeeper or hiring you to do it properly, or have a new bookkeeper that didn't know the difference between paycheck vs distribution?  Or...is he starting to use his S corp as his personal checkbook?!

You need to inform the client of the consequences of the S corp not paying him a reasonable salary, and discuss what has transpired thus far in 2018 before the year is closed.

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I have run into this a number of times.  What I do is to allocate at least a part of the distribution to Officer Compensation, Line 7, 1120S.  Then that amount is entered on the 1040, Line 21 as Officer Compensation.  Then an SE form is generated for the SE tax.   

In 2004, the IRS began auditing S-Corps and at that time issued some guidelines which I can't locate again.  They guidelines were less than $10,000 income and more than $50K distribution.  These may have changed over the years.  The good news is that less than 1% of S-Corp returns are audited and I assume that the small ones, such as this, are on the bottom of the pile.

 

 

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