The topic of shareholder basis has become a more pressing topic during this economic downturn. In order to keep operating, many owners/shareholders have made loans to their businesses. For the shareholder of a company reporting as an S corporation the structure of the loan is important. Most often the owner wants to increase their adjusted basis in the S corporation so they may claim losses generated by the business on their personal tax returns.
The Internal Revenue Service recently proposed regulations in IRB 2012-27 that would defined what loans are not considered to increase basis. Specifically two situations will not create “bona fide indebtedness of the S corporation that runs directly to the shareholder.” The first instance is where a shareholder signs as a guarantor of a loan to the S corporation. Simply being the guarantor does not create a bona fide indebtedness. Indebtedness is only created when the shareholder performs under that guarantee and actually pays the debt of the S corporation. The second situation is where an entity related to the shareholder makes a loan to the S corporation and the shareholder claims the loan was made on their behalf. This “incorporated pocketbook” theory has generally not created loan basis for the shareholder in cases brought before the Tax Court. References to court cases can be found in the notice.
The proposed regulations highlight the need for proper loan structuring. With some planning a shareholder can structure loans appropriately to increase their basis and utilize the basis during periods of losses.