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Can you deduct your K-1 loss?

March 30, 2009

Taxpayers with 2008 net operating losses from "small" businesses are eligible for a five-year loss carryback under recent legislation. If you have such a loss, there's a good chance it will be reported to you on a K-1. Unfortunately, just because your K-1 shows a loss doesn't necessarily mean you can deduct it.

Three limits apply to the use of K-1 losses, in this order:

1. You can't deduct losses in excess of your basis.
2. Even if you have basis to deduct losses, the basis has to be "at-risk," and
3. Even if the basis is "at-risk," losses that are "passive" might be limited.

Unfortunately, K-1s aren't designed to track your basis in your partnerships or S corporations. It's up to taxpayers and their preparers.

Basis Basics:

- Your basis starts with your initial investment in your ownership interest.

-It is increased by taxable income and reduced by deductible expenses, as reported in lines 1-12 of the 1120-S K-1, or lines 1-13 of the 1065 K-1.

-It is increased by tax-exempt income (like municipal bond income) and reduced by permanently non-deductible expenses (like the 50% non-deductible portion of meals and entertainment expenses); these are reported on line 16 of the 1120S K-1 and line 18 of the 1065 K-1.

- It is increased by capital contributions, which appear nowhere on the 1120S K-1 and on Part I, line L of the 1065 K-1.

- It is reduced by distributions, which are on line 16 of the 1120-S K-1 and Line 18 of the 1065 K-1.

Partners also get basis for their share of partnership debt, as reported on line K of the K-1. In contrast, S corporation owners only get basis for loans they make themselves to the corporation; guarantees don't count. More on this tomorrow Friday.

Come back daily for more filing season tips.

Tags: at-risk rules.basis.Partnerships.passive losses.s corporations.Tips for filing 2008 returns.

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