A Legal/Bookkeeping/Tax Question... Anyone?? :)
Hi Room! :) I am hoping one of you can help me with a situation that is new to me. I have a client that is 100% owner of his S-Corp. He got divorced, and although his wife was not a shareholder, she did work with him in the business, and it provided her livelihood during the marriage. In the divorce he was ordered to pay her what they called an "Equitable Distribution" for her role in the business. My question is, how should that be posted, can it be an expense to the business, and can it be taxable income to her. Should I 1099 it?? Thanks so much for any input anyone might have! :)
Generally equitable distributions are not expensed through the SCorp rather treated as an Accumulated Adjustments Account item. These transactions are typically presented on the Schedule M-2 and K1. Whether or not the distribution is taxable depends on her basis in the corporation. This transaction typically does not require filing a 1099 as the transaction is typically reported to the taxpayer/IRS on the K1 under box 16d. Unfortunately, the transaction should not trigger a tax deduction (or expense on the 1120S).
For bookkeeping purposes the transaction will hit an equity account (typically distributions in the current tax year then in the subsequent tax year you would adjust the prior year distributions through retained earnings).
Please feel free to contact me if you have anymore questions!
Since the divorce decree uses the term Equitable Distribution, I will assume they are not in a community property state. Equitable distribution is used in lieu of community property to divide marital property that was acquired during the marriage.
Basically the money she gets from the S Corp is her share or at least a portion of her share of the marital estate and has nothing to do with the fact that she may or may not have worked and provided service to the S Corp in the past.
It should be booked as a reduction in the shareholder's capital account, like any other distribution he might take directly.
Also beware that this could create a basis limitation issue for the shareholder if there are ever losses from the S Corp.
This is more technical than a quick response via mosaic.
You can email or call me via my linked-in network. I am a CPA, ABV and Board member of the IDFA.
In short, it depends on whether the Company itself was considered a marital asset. If so, you'd handle this as a number of ways outside of taxation and definitely not to be taxed to the spouse.
Handling this incorrectly will create a major hassles and I would be willing to do a short consult to help.
Agreeing with Wray, this sounds like a marital property distribution / settlement and has little to do with the S Corp per se, other than it was part of the asset base used in determining the amount of the accumulated marital assets.
If he pulls the payment through the S Corp, it should be treated like any other stockholder distribution to him. How he uses it is almost not the point at the Corporation level, other than as stated, watch that he has sufficient basis including undistributed earnings to sustain the distribution amount. If he takes too much, he could be looking at dividend income personally with no corporate deduction.
I have a client in a similar situation. The wife before the spilt was an subcontractor and was paid a cheque for the work she did. That was posted in the subcontract account. After the split he was writing support cheques from the firm and the cheques were posted to shareholder distribution. She was also to receive equitable distribution. Wrote a cheque from the firm and posted to the shareholder account. It would be part of what the corporation paid him and he has to declare on his personal tax return.
Thank you all so much..... just what I needed to hear!!!
This is NOT good news for you: It Is not deductible. It is not income to wife. It is a division of assets.