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We hold that Michael and Jody received employee wages from
the corporation in the amounts determined by respondent.2
The second issue we must decide is the correct method of
computing the amounts of losses and gains that Michael, Jody, and
David must recognize with respect to their stock in the
corporation.
In general, section 1366(a)(1) provides that a shareholder
shall take into account his pro rata share of an S corporation's:
(A) items of income * * *, loss, deduction, or
credit the separate treatment of which could affect the
liability for tax of any shareholder, and
(B) nonseparately computed income or loss.
Section 1366(d)(1) limits the aggregate amount of losses and
deductions that may be taken into account by a shareholder under
section 1366(a) for any taxable year to:
(A) the adjusted basis of the shareholder's stock
in the S corporation (determined with regard to
paragraph (1) of section 1367(a) for the taxable year),
and
(B) the shareholder's adjusted basis of any
indebtedness of the S corporation to the shareholder
* * *.
2 As a result of the additional deductions allowed to the
corporation in the amounts which we have held are properly
treated as employee wages, the corporation sustained net losses
instead of the reported net income for the taxable years in
issue. We find that the amounts of the net losses, after taking
into account respondent's uncontested adjustments to the
corporation's costs of goods sold, are $34,122, $57,579, and
$36,888 for 1992, 1993, and 1994, respectively.
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