How Do S-Corporation Distributions Work?

lawyer giving advice to a man. in reference to s-corporation distributions

How Do S-Corporation Distributions Work?

S-Corporation owners can take money out of their company in a variety of ways. For purposes of this post, we will refer to S-Corporations as corporations. However, a C-Corporation or LLC can file IRS Form 2553 to elect to be taxed as an S-Corporation. An S-Corporation’s distribution of cash or property may give rise to three possible tax consequences to the recipient shareholder: a tax-free reduction of the shareholder’s basis in the corporation’s stock, a taxable dividend, or a capital gain. A single distribution may result in multiple consequences.

How Do S-Corporation Distributions Affect Shareholder Basis?

A shareholder’s initial basis in the stock of the S-Corporation depends on the amount of capital that shareholder contributed to the company, i.e., either an amount of cash or the fair market value of any property contributed. An S-Corporation is a pass-through entity and a shareholder’s basis changes every year, depending on income, losses, and other items. 

How Are S-Corporation Distributions Taxed?

S-corporations generally make non-dividend distributions, which are tax-free, provided the distribution does not exceed the shareholder’s stock basis. The tax-free distributions reduce the shareholder’s stock basis. If the distribution exceeds the shareholder’s stock basis, the excess amount is taxable as a capital gain.

The treatment of an S-Corporation distribution depends on the shareholder’s basis in his or her S-Corporation stock; the S-Corporation’s historic earnings and profits (E&P), if any; and the S-Corporation’s and accumulated adjustments account. An S-Corporation may have E&P only if it was previously a C-Corporation. An S-Corporation distribution from historic E&P is treated as a taxable dividend. The treatment of a distribution made by an S-Corporation without accumulated E&P depends on the shareholder’s basis in the S-Corporation stock.

S-Corporations are pass through entities, meaning that shareholders report their proportional share of income and losses on their personal income tax returns. The income is taxed only once at the shareholder level at individual income tax rates. S-Corporation distributions are not subject to payroll taxes (social security and Medicare taxes).

In addition, because an S-Corporation shareholder who works for the S-Corporation is classified as an employee, they should receive reasonable compensation for the work they perform. You can minimize employment taxes by taking a salary in the lowest reasonable amount for the type of work you perform for the business. Determining a reasonable salary may be done by comparing the average wages paid in the marketplace for similar work; however, the amount can be adjusted by the IRS if it is found to be unreasonable.

EPGD Business Law is located in beautiful Coral Gables. Call us at (786) 837-6787, or contact us through the website to schedule a consultation.

*Disclaimer: this blog post is not intended to be legal advice. We highly recommend speaking to an attorney if you have any legal concerns. Contacting us through our website does not establish an attorney-client relationship.*

Share this post

Eric Gros-Dubois

Founding partner Eric Gros-Dubois established EPGD Business Law in 2013. With over a decade of experience expanding the firm and leading it to its current success, Eric now primarily manages the corporate division of EPGD. Given Eric’s educational background, holding both a JD and MBA, combined with his own unique experience of starting a business from scratch and growing it to a multi-million dollar firm, he brings a specialized and invaluable perspective to those seeking legal assistance for themselves and their businesses. Having now instilled his same values in our team of skilled corporate associates, Eric leads a firm that is always ready, willing, and equipped to handle any and every legal matter that a business owner may have.

Discussion

*The following comments are not intended to be treated as legal advice. The answer to your question is limited to the basic facts presented. Additional details may heavily alter our assessment and change the answer provided. For a more thorough review of your question please contact our office for a consultation.
Search

Categories

Categories
FREE DOWNLOAD

The Entrepreneurs Handbook

This is a quick legal reference guide covering 16 topics that every business owner needs to have to start a business

FREE DOWNLOAD

The Entrepreneur's Handbook

This is a quick legal reference guide covering 16 topics that every business owner needs to have to start a business.

DESARGA GRATUITA

El Manual del Empresarios

Esta es una guía rápida de referencia jurídica que cubre 16 temas que cada empresario necesita saber para empezar un negocio.