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S Corp. Owner's Drawing Against Paid-in Capital

I am the owner of a S Corp business started in 2005. The business has not generated enough sales to pay myself a salary. The 2006 income was less than $1,000. Considering that I still have personal living expenses, what I have done is draw cash against the paid-in capital as needed for personal expenses. I have also done the reverse whenever the business needs additional cash. However, on a YoY ('05 and '06) basis, the paid-in capital went down by the amount of cash drawn from the business in 2006. I don't know what IRS reaction would be if they see a decrease in YoY paid-in capital but I prefer to resolve any potential audit pitfall before I file my 1120S. That is the reason I have come to you experts with the following questions. Your response would help me consider my options.

  1. Can I restate the drawings as loans from the business instead of reduction of paid-in capital?
  2. Can it be treated as distribution? Is there a thing like tax-free distribution?
  3. Do I owe payroll taxes on the entire drawings or on a portion of it?

  1. What would you do if you are in my shoes :-D?

I appreciate any help or insight that can be provided.

Thanks- ZGR81

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Reply to
ZGR81
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writing checks back & forth with no documentation is only a prelude to future problems you need to document loans, paid in capital etc for loans there should be signed notes

payments for compensation (living exp etc) need to be salary

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Reply to
Benjamin Yazersky CPA

"ZGR81" wrote:

You don't say what state you are in and that could make a difference. In most states, AFAIK, it is illegal for a corporation to distribute funds from paid in capital. When you filed your incorporation papers, etc. you specified how much capital had been paid in. This information is to protect the public from being defrauded by undercapitalized businesses defaulting on its financial obligations. What you probably should do is treat all the draws as loans and charge interest on the outstanding balance (if material, anyway.) Unless you are talking about very large sums of money, I doubt the IRS will be concerned if you don't pay yourself a salary. In an S-corp environment a salary would be taxable to you and deductible by the corporation. If this creates a loss, that loss offsets the salary income on your personal return. However, this may not be a neutral series of transactions. First, of course, the corporation would have to pay the FICA and other payroll taxes, thus increasing the corporate loss passing through to you. In addition, the salary could give rise to other benefists, such as earned income credit, on your personal return. If you were my client, I would probably say to reclassify all the drawings as loans, to document this with a written agreement or note, and to charge interest on the loan. Lanny K. Williams, CPA Nawarat, Williams & Co., Ltd. Income Tax Services for Expatriate Americans

Reply to
L K Williams

Concur with my learned expatriate colleague living the good life over there. Or at least I hope so what with the recent coupe. Anyway, state laws usually follow the uniform corporation codes laws, and it IS illegal to diminish paid in capital. The loan route would be reasonable, but for the OP, you might want to seek some local qualified tax help from either an EA or a CPA. (Note to CPA's; I try to alternate placement of our designations in every other post. This time it's Ea's turn. (grin)) ChEAr$, Harlan Lunsford, EA n LA

Reply to
Harlan Lunsford

This is the same as saying that a corporation can't declare a dividend in excess of its retained earnings, right? Nor can it declare a dividend at all if the RE is negative? Presumably, if I'm understanding this correctly, this requirement doesn't apply to a corporation organized as a REIT. (I've been researching a company today that has been happily declaring dividends for years with a negative RE).

Reply to
Tony Cox

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