Understanding Schedules K-1
Q: Does the Schedule K-1 (Form 1065) show any numbers that are not actually paid to the partner but just reported for taxable purposes to the partner, e.g., interest income?
A: As you'll recall, the only numbers that represent cash paid to the partner(s) on Schedule K-1 (Form 1065) are amounts recorded as guaranteed payments to partners and distributions. All other revenue amounts reported are those earned by the partnership but passed to the partners to report as personal income on their Forms 1040.
Q: Why is it non-cash?
A: In reference to the owners’ or partners’ cash flow, we use the term non-cash to refer to income earned by the partnership or Subchapter S corporation that is passed to the partners or owners. The cash dimension of the income, e.g., interest or dividend income, remains with the company. It is cash to the company, but it is non-cash to the partner or owner who must record it as earned income on his or her personal Form 1040.
Q: But there is no computation on the Schedules K-1 for “basis” for a S Corp and there is no 16A line on Schedule K-1 for 1120S.
A: Correct. There is no computation for "basis” on a Schedule K-1 (Form 1120S) but, as we noted, "basis" is roughly the sum of accrual net worth plus loans from the owner for a Subchapter S corporation. The company's accountant should be able to provide the lender with a specific owner's share of net worth and the loans outstanding to the company from that owner.
Line 16A on Schedule K-1 (Form 1120S) reports tax-exempt interest income and if there was no tax-exempt interest income that year, then there will not be a 16A, such is the case with Information Access, Inc.’s Schedule K and the respective Schedule K-1 for the owners. The amounts which were reported that affect “basis” from Information Access activity in 2018 were 16C (non-deductible expenses), 16D (distributions) and 16E (loan repayment to the owner or shareholder), all of which reduced "basis".
Q: Getting really lost with having to locate different schedules while content has already been discussed by the time I can locate schedules.
A: We provide screen captures of all schedules and forms we discuss in the presentation and viewing the actual schedules and forms is a great way to gain familiarity. However, rather than trying to locate the schedules referenced, some participants find it preferable to print out the slide deck before the session and jot down notes on the presented slide deck pages during the presentation, then review with the actual referenced documents in depth after the fact. Something to consider for future sessions.
Q: Can an owner have a negative accrual net worth but still have a positive “basis” due to shareholder contributions to the company?
A: Positive "basis" is possible for a partner if their share of liabilities exceeds the negative net worth of the entity. Positive "basis" is also possible for the owner of a Subchapter S corporation if loans outstanding to company from an owner exceed negative net worth.
Q: Does the individual taxpayer have to pay taxes on the loan from the company?
A: No. A loan from his or her company is not a taxable event.
Q: Where do you find the remaining tax-free distributions available to individual?
A: There is no data capture field on business or personal income tax statements that report remaining tax-free distributions. The best source of such information is usually the company's accountant. Or, with a little digging, the lender may be able to produce a fair estimate of remaining tax-free distributions.
Note, however, that the "penalty" for drawing distributions in excess of "basis" is relatively minor since it's the long-term capital gains rate. In the tax preparation process, the accountant will complete a calculation of “basis.” Generally, lenders do not use this information in their credit analysis, focusing instead on the amount of cash taken out of the company as owner compensation in the form of distributions and loans to owners and their impact on cash flow and debt service.
Ccourse overview: Understanding Schedules K-1