How to Report Guaranteed Payments on 1065

Guaranteed payments are a method of compensating partners for services provided or for the use of their capital, where the payment amount is calculated without regard to the partnership’s income. This structure ensures a partner receives compensation even if the partnership does not generate a profit.

These payments are fundamentally different from a partner’s draw or a distribution of profits. A draw is a disbursement of the partnership’s profits, which reduces the partner’s capital account but is not a business expense. In contrast, a guaranteed payment is treated as an expense to the partnership and income to the partner.

Information Required for Reporting

A partnership must gather the correct legal name, full address, and taxpayer identification number for every partner who received guaranteed payments. This is a Social Security Number (SSN) for an individual or an Employer Identification Number (EIN) for a partner that is an entity.

The partnership must also categorize the total payments made to each partner into two specific types: those for services rendered and those for the use of capital. Payments for services are remuneration for work a partner has performed, and this can include payments the partnership makes for a partner’s health insurance premiums. Payments for the use of capital are interest paid to a partner for contributing capital beyond their required amount or for a specific loan of capital to the business.

Reporting on Form 1065

The aggregate amounts of guaranteed payments are reported on Form 1065, U.S. Return of Partnership Income. The total of all guaranteed payments, combining both payments for services and for the use of capital, is entered as a deduction on Line 10 of Form 1065. This entry reduces the partnership’s ordinary business income.

This total amount is also carried to Schedule K (Form 1065). Schedule K is a summary schedule that reports the totals of specific income, deduction, and credit items for the partnership as a whole. The total guaranteed payments from Line 10 are reported again on Line 4 of Schedule K, where they are broken down into payments for services and payments for capital.

Reporting on Schedule K-1

While Form 1065 and Schedule K report the partnership’s total figures, the Schedule K-1 (Form 1065) is an individual form prepared for each partner. It breaks down their specific share of the partnership’s financial activity for the year, including the exact amount of any guaranteed payments that particular partner received.

For each partner who received guaranteed payments, the partnership must complete Box 4 of their Schedule K-1. The amount paid to the partner for services rendered is entered in Box 4a, and any amount paid for the use of capital is entered separately in Box 4b. The partnership is responsible for furnishing a completed Schedule K-1 to each partner.

Tax Treatment for the Partnership and Partner

For the partnership, these payments are treated as a business expense. By deducting the guaranteed payments on Form 1065, the partnership reduces its ordinary business income, which reduces the total profit passed through to the partners. For the partner who receives the payment, the amount is considered taxable income.

The figures from Box 4 of their Schedule K-1 must be reported on their personal income tax return, typically on Schedule E (Form 1040), and this income is taxed at the partner’s ordinary income tax rates. Guaranteed payments are generally subject to self-employment tax, which covers Social Security and Medicare taxes. For instance, a limited partner may not owe self-employment tax on guaranteed payments for the use of capital.

Because the partnership does not withhold these taxes, partners must often make quarterly estimated tax payments to the IRS to cover their income tax and self-employment tax liability.