Closing S-Corp

[Terry D EA]

New client has S-Corp with two shareholders 50/50 and been filing 1120S since 2012. Client stated they have worked with a retired CPA who has been filing tax returns. Neither person has been an employee and no wages paid since the beginning. No basis has been tracked. Books show both shareholders taking a draw on the balance sheet which at this time, I am assuming the draw is the way they were paid. They are going out of business within 6 months. 2023 the S-Corp has little income. Only asset is the cash in the cash/operating account. No fixed assets. The company is a housekeeping service, and they are only keeping a few commercial accounts going to stay afloat this year. My suggestion is to file 2022 as the final year and dissolve the S-Corp. File 2023 as a Sole-Proprietor. With needing form 7203, I can back into the basis without too much difficulty. Additional info- the balance sheet with form 1120S has never been completed because the gross receipts have always been under the requirements to complete so no M-1, no AAA, and no A&E. I may be able to recreate the AAA and A&E. 

Any suggestions of another direction to go with this will be appreciated. Of course, I told them I would have to see all previous filed returns to see if any amendments are needed. I wonder what the chances are of the IRS catching no payroll from the officers/shareholders. Both materially participate so this is not a passive activity.

[kathyc2]

3 hours ago, Terry D EA said:

My suggestion is to file 2022 as the final year and dissolve the S-Corp. File 2023 as a Sole-Proprietor.

I don't see how you can retroactively dissolve the S when presumably payments for services in 2023 when to corporate bank account. 

[Abby Normal]

1 hour ago, kathyc2 said:

I don't see how you can retroactively dissolve the S when presumably payments for services in 2023 when to corporate bank account. 

Also, the bank account used in 2023 is in the corporation's name so all activity goes on the 1120S. We account for what happened, not what we wish had happened.

Shoot for dissolution on 12/31/23 to avoid short year calcs.

[Lee B]

Yes, creative accounting and imaginative return preparation is not "due diligence"

I would write a CYA letter advising this client of their noncompliance with the IRS "reasonable compensation" requirements.

[Terry D EA]

You see this is why I throw stuff out there to my colleagues. Something about my plan bothered me. I didn't think about the bank account being in the corps name and that in and of itself says not a good idea and can't do it. I am not one to do anything creative or imaginative return preparation. I did advise the client of their non-compliance to cover me. I have prepared the 2022 return and have been questioning transmitting the return knowing full well the non-compliance. Almost like I am filing an inaccurate return on purpose. 

[Lion EA]

You're NOT filing an inaccurate return. You're reporting what the biz did last year. Not what it should've done, because it didn't do what it should've done. The BIZ was not accurately following the regulations for an S-corp if it wasn't paying reasonable compensation. Circ 230 tells us to explain to the client what they did wrong and the consequences. We do NOT have to repair their prior acts, unless they engage use to do so.

[Terry D EA]

Thank you for the explanation. If I am asked to prepare the individual shareholders returns, their "draws" as they call is subject to SE tax and that is the only way I can file those returns. Thanks again.

[Bart]

Paying SE tax on a "draw" is filing an inaccurate return

[schirallicpa]

Not that I want the IRS to go after every S-corporation that doesn't pay reasonable comp - but I feel like the IRS is missing easy catches on that topic.

 

[Terry D EA]

On 10/10/2023 at 7:06 PM, Bart said:

Paying SE tax on a "draw" is filing an inaccurate return

I agree totally. I am not preparing their individual return. My statement of the draws was a guess at what they may have done. 

The IRS is definitely missing easy catches with S-Corps and not paying reasonable compensation. To me what is worse is when clients are totally clueless of the tax laws rely on either wrong or incomplete information received from a professional. In this case a retired CPA who should have known the rules of the game. In defense of that CPA, maybe he/'she wasn't a tax accountant. But if he/she wasn't well versed in taxes, they should have handed this off to someone who was.

I also noted from the 2021 1120S, in the signature line the words "Prepared by a non-paid preparer" which leaves the client with no recourse at all. 

[jklcpa]

1 hour ago, Terry D EA said:

In this case a retired CPA who should have known the rules of the game.

Terry, even though we know the rules, we are still required to prepare the return with the transactions and fact pattern that occurred. If there was no salary and only draws, then that is the return to file whether or not it violates "reasonable compensation."  In these cases, what we should try to do is educate the client and correct these problems going forward, or choose to terminate the relationship.   

As someone already said above, report what actually happened, not what we wish had happened.

That goes for CPAs, EAs, and any other paid preparer for that matter.

[Terry D EA]

Thanks Judy, that is exactly what I have done. 

[Catherine]

We have, in the past, issued a 1099-NEC for the "draw" amounts for S-Corp owners - and then made sure payroll was put in place, pronto.