You have to have basis in your partnership or S corporation interest to deduct losses on your K-1. You also have to clear some other hurdles, but if you don't have basis, you don't even get to them. Your basis generally starts with your investment in your interest; it's increased by income items reported on your K-1, and by additional investments, and it's decreased by your share of losses, expenses and distributions.
With partnerships, there is an extra wrinkle: your basis also includes your share of debts owed by the partnership. That's not true for S corporations. But how do you know what your share of partnership debt is?
A properly-prepared partnership return will report each partners share of debt on part K of Schedule K-1:
You can add the amounts on these lines to the amount of basis you have otherwise to determine your basis in your partnership interest. The ability to use this "inside" partnership debt as basis is a reason why partners run out of basis less often than S corporation owners do.
You probably also have noticed the "Partner's capital account analysis" on part L of the K-1, just below the debt thing:
Can you use this as a shortcut to figuring your basis? Usually not. Sometimes you can if the "Tax basis" box is checked, but even that is unreliable. It's much safer to track your own basis year-by-year based on your original and subsequent investments, distributions and K-1 items.
So you have basis? Congratulations, but you still might not be able to deduct your losses. Your basis still has to be "at-risk," and your losses might be non-deductible if they are "passive." More tomorrow.
Prior posts on 2010 K-1s:
This is another installment of our thrilling series of 2011 filing season tips. They'll just keep coming through April 18!
The items included in the Tax Update Blog are informational only and are not meant as tax advice. Consult with your tax advisor to determine how any item applies to your situation.
Joe Kristan writes the Tax Update items, and any opinions expressed or implied are not necessarily shared by anyone else at Roth & Company, P.C. Address questions or comments on Tax Updates to