1.1367-1(g) Election: How It Impacts S Corp Stock Basis

The 1.1367-1(g) election plays a key role in how S corporation shareholders calculate their stock basis for tax purposes. It allows shareholders to adjust the timing of income inclusion and deduction recognition, which directly impacts taxable income and distributions. Understanding this election helps shareholders make informed financial decisions.

Stock Basis Calculation Under This Regulation

The 1.1367-1(g) election provides S corporation shareholders a way to manage tax liabilities by adjusting their stock basis. Shareholders can defer recognition of specific income items and deductions, affecting their tax obligations and the impact of pass-through income. This deferral can lower taxable income in the current year, which may be advantageous when higher income or deductible expenses are expected in the future.

For example, if a shareholder anticipates significant capital expenditures or deductible expenses in the following year, deferring income recognition can provide a more favorable tax position. Similarly, the election allows deferral of loss recognition, which can be useful if a shareholder expects higher income in subsequent years to offset those losses. This flexibility aligns tax liabilities with broader financial goals and anticipated cash flows.

Requirements for Electing This Option

To use the 1.1367-1(g) election, shareholders must follow IRS procedural guidelines. The election must be made by the due date of the S corporation’s tax return, including extensions, by attaching a statement to the return indicating the intent to elect under this regulation.

Unanimous agreement among all shareholders is required, as the election impacts stock basis calculations for everyone involved. This agreement should be documented in corporate records. Once made, the election remains effective until it is revoked, which also requires unanimous consent and adherence to the same procedures.

Effects on Distributions

This election affects how S corporation distributions are treated for tax purposes. Distributions are typically tax-free up to the shareholder’s stock basis, but deferring income recognition may reduce stock basis at the time of distribution. If a distribution exceeds the adjusted basis, the excess could be taxed as a capital gain.

The election also interacts with the corporation’s accumulated adjustments account (AAA), which tracks cumulative income or loss passed through to shareholders. Deferring income recognition may delay increases to the AAA, potentially changing how distributions are classified. For instance, distributions could be drawn from previously taxed income rather than current-year income.

These adjustments can lead to varying impacts among shareholders with different tax objectives. One shareholder might prefer to trigger income recognition to increase their stock basis and avoid capital gains on distributions, while another might prioritize deferring income to align with future tax planning. Reaching consensus on the election requires careful consideration of these differing priorities.