1040-US: Shareholder's Basis Worksheet - calculation of basis limitation

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Question

How does the Shareholder's Basis Worksheet calculate the basis limitation on the deductibility of a shareholder's share of the S Corporation's losses?

Answer

The aggregate amount of losses and deductions that a shareholder may take into account for any taxable year may not exceed the sum of the adjusted basis of the shareholder's stock of the S Corporation and the adjusted basis of any indebtedness of the S Corporation owed to the shareholder. The adjusted basis of the shareholder's stock of the S Corporation is calculated without regard to the shareholder's share of the losses and deductions. Shareholder losses and deductions are allowed in full when the total is less than the adjusted basis of the stock and basis of indebtedness. When the total of loss and deductions exceeds the outside basis as adjusted above, a portion of each loss item is allowed, based on the proportion that each bears to the total of all loss items. Losses and deductions not allowed this year because of the basis limit are carried forward indefinitely and deducted in a later year subject to the basis limit for that year.

In calculating shareholder's stock basis, adjustments are made in the following order, per IRC Sec. 1367(a) and Reg. 1.1367-1(f).

  1. increased for income items and excess depletion
  2. decreased by distributions
  3. decreased for nondeductible, noncapital expenses and certain oil and gas depletion deductions
  4. decreased for items of loss and deduction

However, a shareholder may elect to reduce basis by items of loss or deduction before reducing basis by nondeductible, noncapital expenses and certain oil and gas depletion deductions. Once this election is made, the shareholder must continue to use these ordering rules in future taxable years unless the IRS consents to revocation.

Related topic: Partner’s and Shareholder’s Basis Worksheets FAQs (1040)

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