Incorrectly deducted S losses affect basis computation.

• Author: Courtney, Marietta
• Position: S corporations

In Field Service Advice 200230030, the IRS concluded that a taxpayer's basis in S corporation stock for an open year must be adjusted for improper deductions in excess of basis in closed years.

S deductions and losses pass through to shareholders. Under Sec. 1366(a), the shareholders report their pro-rata share of the deductions and losses on their individual returns. The deduction is limited to their basis in their S stock and amounts loaned by them to the S corporation. A deduction or loss that cannot be claimed due to basis limits may be carried over and used in future tax years, to the extent the shareholder has basis.

Basis Improperly Claimed in Closed Year

Example: M was the sole shareholder of S corporation C, and had a $20,000 adjusted stock basis. In year 1, C had a $50,000 loss, which M deducted in full and reduced his basis to zero. M should have deducted only $20,000 (his adjusted stock basis), then reduced his basis to zero. In year 2, C had a $30,000 ordinary loss, which M deducted in full, despite having zero basis; he claimed that his adjusted basis remained at zero. In year 3, C had $90,000 of ordinary income...