Your newest client, Smiles PC, is a dental practice providing comprehensive dent

Question

Your newest client, Smiles PC, is a dental practice providing comprehensive dental services in the Houston area. The corporation is solely owned by Mark W. Nguyen, DDS, and has been set up as an S corporation since its inception five years ago. Nguyen is the only dentist in the practice and works full-time. He also has two full-time dental hygienists, one office manager and one administrative assistant in the office. At the beginning of the current year, Nguyen’s stock basis in Smiles PC totaled $30,000. The corporation had $100,000 in outstanding debt at year-end, the result of purchasing expensive dental equipment. The debt is under the name of the corporation but is personally guaranteed by Nguyen. During the current year, Smiles PC sustained a net ordinary loss of $50,000. Nguyen is an employee of the corporation and was paid a salary of $120,000 for the year; he also took a cash distribution $10,000. Dr. Nguyen has called your office today and would like to know how much of the loss he will be able to deduct on his personal return. He is envisioning a sizable refund as a result of the loss deduction. Will he be able to take any loss deduction for the year?

Explanation / Answer

Deduction of losses of a S Corporation depends upon the basis of shareholder in the stock of S Corporation. Here, in the beginning the cash basis of Nguyen in the stock of his S Corporation was $ 30,000 but after a cash distribution of $ 10,000, the stock basis reduced to $ 20,000. Losses of S Corporation are used to set-off against the basis of shareholder but as a result of it the basis of shareholder can not be reduced to less than $ 0. i.e. the loss of $ 50,000 first will be set-off against the shareholder's remaining basis in the S Corporaton. i.e. $ 20,000. And the rest of $ 30,000 becomes non deductable loss unless the the shareholder increases either his stock basis or debt basis in the S Corporation. Nguyen can repay the outstanding debt of S Corporation that he personally guaranteed to increase his debt basis in the Corporation, which in turn can be used to deduct the balance of $ 30,000 of losses of S Corporation in his personal return.

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