2003 HTML Instructions for Form 1120S,

This is archived information that pertains only to the 2003 Tax Year. If you
are looking for information for the current tax year, go to the Tax Prep Help Area.

Purpose of Form

Form 1120S is used to report the income, deductions, gains, losses, etc., of a domestic corporation that has elected to be an S corporation by filing Form 2553, Election by a Small Business Corporation, and whose election is in effect for the tax year.

Who Must File

A corporation must file Form 1120S if (a) it elected to be an S corporation by filing Form 2553, (b) the IRS accepted the election, and (c) the election remains in effect. Do not file Form 1120S for any tax year before the year the election takes effect.

You cannot file Form 1120S unless you have previously filed a properly completed Form 2553. After filing Form 2553 you should have received confirmation that Form 2553 was accepted. If you did not receive notification of acceptance or nonacceptance of the election within 3 months of filing Form 2553 (6 months if you checked box Q1 to request a letter ruling), you should contact the service center where the form was filed to make sure the IRS received the election. If you have not filed Form 2553, or did not file Form 2553 on time, you may be entitled to relief for a late filed election to be an S corporation. See the Instructions for Form 2553 for details.

Termination of Election

Once the election is made, it stays in effect until it is terminated. If the election is terminated, the corporation (or a successor corporation) can make another election on Form 2553 only with IRS consent for any tax year before the 5th tax year after the first tax year in which the termination took effect. See Regulations section 1.1362-5 for more details.

An election terminates automatically in any of the following cases:

The corporation is no longer a small business corporation as defined in section 1361(b). This kind of termination of an election is effective as of the day the corporation no longer meets the definition of a small business corporation. Attach to Form 1120S for the final year of the S corporation a statement notifying the IRS of the termination and the date it occurred.
The corporation, for each of three consecutive tax years, (a) has accumulated earnings and profits and (b) derives more than 25% of its gross receipts from passive investment income as defined in section 1362(d)(3)(C). The election terminates on the first day of the first tax year beginning after the third consecutive tax year. The corporation must pay a tax for each year it has excess net passive income. See the instructions for line 22a for details on how to figure the tax.
The election is revoked. An election may be revoked only with the consent of shareholders who, at the time the revocation is made, hold more than 50% of the number of issued and outstanding shares of stock (including non-voting stock). The revocation may specify an effective revocation date that is on or after the day the revocation is filed. If no date is specified, the revocation is effective at the start of a tax year if the revocation is made on or before the 15th day of the 3rd month of that tax year. If no date is specified and the revocation is made after the 15th day of the 3rd month of the tax year, the revocation is effective at the start of the next tax year.

To revoke the election, the corporation must file a statement with the service center where it filed its election to be an S corporation. In the statement, the corporation must notify the IRS that it is revoking its election to be an S corporation. The statement must be signed by each shareholder who consents to the revocation and contain the information required by Regulations section 1.1362-6(a)(3). A revocation may be rescinded before it takes effect. See Regulations section 1.1362-6(a)(4) for details.

For rules on allocating income and deductions between an S short year and a C short year and other special rules that apply when an election is terminated, see section 1362(e) and Regulations section 1.1362-3.

If an election was terminated under 1 or 2 above, and the corporation believes the termination was inadvertent, the corporation may request permission from the IRS to continue to be treated as an S corporation. See Regulations section 1.1362-4 for the specific requirements that must be met to qualify for inadvertent termination relief.

Electronic Filing

S corporations will have an option to file Form 1120S and related forms, schedules, and attachments electronically. However, the option to file electronically does not apply to certain returns, including:

Amended returns,
Bankruptcy returns,
Final returns,
Returns with a name change,
Returns with precomputed penalty and interest,
Returns with reasonable cause for failing to file timely,
Returns with reasonable cause for failing to pay timely,
Returns with request for overpayment to be applied to another account,
Short-year returns, and
52–53 week tax year returns.

Notes:

Visit www.irs.gov/efile for details, including a list of forms and schedules not acceptable for electronic filing. Form 1120S cannot be electronically filed if any of those forms and schedules are required to be attached to Form 1120S.
Form 7004, Application for Automatic Extension of Time To File Corporation Income Tax Return, cannot be electronically filed.

When To File

In general, file Form 1120S by the 15th day of the 3rd month following the date the corporation's tax year ended as shown at the top of Form 1120S. For calendar year corporations, the due date is March 15, 2004. If the due date falls on a Saturday, Sunday, or legal holiday, file on the next business day.

If the S corporation election was terminated during the tax year, file Form 1120S for the S corporation's short year by the due date (including extensions) of the C corporation's short year return.

Private delivery services. Corporation's can use certain private delivery services designated by the IRS to meet the “timely mailing as timely filing/paying” rule for tax returns and payments. The most recent list of designated private delivery services was published by the IRS in September 2002. The list includes only the following:

Airborne Express (Airborne): Overnight Air Express Service, Next Afternoon Service, Second Day Service.
DHL Worldwide Express (DHL): DHL "Same Day" Service, DHL USA Overnight.
Federal Express (FedEx): FedEx Priority Overnight, FedEx Standard Overnight, FedEx 2Day, FedEx International Priority, FedEx International First.
United Parcel Service (UPS): UPS Next Day Air, UPS Next Day Air Saver, UPS 2nd Day Air, UPS 2nd Day Air A.M., UPS Worldwide Express Plus, UPS Worldwide Express.

The private delivery service can tell you how to get written proof of the mailing date.

Extension. Use Form 7004, Application for Automatic Extension of Time To File Corporation Income Tax Return, to request an automatic 6-month extension of time to file.

Most private delivery services will not accept your return without a street address in addition to the city, state, and ZIP code. You can get the street address of your service center by calling 1-800-829-4933.

Period Covered

File the 2003 return for calendar year 2003 and fiscal years beginning in 2003 and ending in 2004. If the return is for a fiscal year or a short tax year, fill in the tax year space at the top of the form.

Note:

The 2003 Form 1120S may also be used if:

The corporation has a tax year of less than 12 months that begins and ends in 2004 and
The 2004 Form 1120S is not available by the time the corporation is required to file its return.

The corporation must show its 2004 tax year on the 2003 Form 1120S and take into account any tax law changes that are effective for tax years beginning after December 31, 2003.

Where To File

File your return at the applicable IRS address listed below.

If the corporation's principal business, office, or agency is located in:	And the total assets at the end of the tax year (Form 1120S, page 1, item E) are:	Use the following Internal Revenue Service Center address:
Connecticut, Delaware, District of Columbia, Illinois, Indiana, Kentucky, Maine, Maryland, Massachusetts, Michigan, New Hampshire, New Jersey, New York, North Carolina, Ohio, Pennsylvania, Rhode Island, South Carolina, Vermont, Virginia, West Virginia, Wisconsin	Less than $10 million $10 million or more	Cincinnati, OH 45999-0013 Ogden, UT 84201-0013
Alabama, Alaska, Arizona, Arkansas, California, Colorado, Florida, Georgia, Hawaii, Idaho, Iowa, Kansas, Louisiana, Minnesota, Mississippi, Missouri, Montana, Nebraska, Nevada, New Mexico, North Dakota, Oklahoma, Oregon, South Dakota, Tennessee, Texas, Utah, Washington, Wyoming	Any amount	Ogden, UT 84201-0013
A foreign country or U.S. possession	Any amount	Philadelphia, PA 19255-0013

Who Must Sign

The return must be signed and dated by:

The president, vice president, treasurer, assistant treasurer, chief accounting officer, or
Any other corporate officer (such as tax officer) authorized to sign.

Receivers, trustees, or assignees must also sign and date any return filed on behalf of a corporation.

If an employee of the corporation completes Form 1120S, the paid preparer's space should remain blank. In addition, anyone who prepares Form 1120S, but does not charge the corporation, should not complete that section. Generally, anyone who is paid to prepare the return must sign it and fill in the “Paid Preparer's Use Only” area.

The paid preparer must complete the required preparer information and:

Sign the return in the space provided for the preparer's signature.
Give a copy of the return to the taxpayer.

Paid Preparer Authorization

If the corporation wants to allow the IRS to discuss its 2003 tax return with the paid preparer who signed it, check the "Yes" box in the signature area of the return. This authorization applies only to the individual whose signature appears in the "Paid Preparer's Use Only" section of the return. It does not apply to the firm, if any, shown in that section.

If the "Yes" box is checked, the corporation is authorizing the IRS to call the paid preparer to answer any questions that may arise during the processing of its return. The corporation is also authorizing the paid preparer to:

Give the IRS any information that is missing from its return,
Call the IRS for information about the processing of its return or the status of its refund or payment(s), and
Respond to certain IRS notices that the corporation has shared with the preparer about math errors, offsets, and return preparation. The notices will not be sent to the preparer.

The corporation is not authorizing the paid preparer to receive any refund check, bind the corporation to anything (including any additional tax liability), or otherwise represent the corporation before the IRS. If the corporation wants to expand the paid preparer's authorization, see Pub. 947, Practice Before the IRS and Power of Attorney.

The authorization cannot be revoked. However, the authorization will automatically end no later than the due date (excluding extensions) for filing the 2004 tax return.

Accounting Methods

An accounting method is a set of rules used to determine when and how income and expenditures are reported. Figure ordinary income using the method of accounting regularly used in keeping the corporation's books and records. In all cases, the method used must clearly reflect income.

Generally, permissible methods include:

Cash,
Accrual, or
Any other method authorized by the Internal Revenue Code.

If inventories are required, the accrual method generally must be used for sales and purchases of merchandise. However, qualifying taxpayers and eligible businesses of qualifying small business taxpayers are excepted from using the accrual method and may account for inventoriable items as materials and supplies that are not incidental. For details, see Schedule A. Cost of Goods Sold on page 18.

Generally, an S corporation may not use the cash method of accounting if the corporation is a tax shelter (as defined in section 448(d)(3)). See section 448 for details.

Accrual method. Under the accrual method, an amount is includible in income when:

All the events have occurred that fix the right to receive the income, which is the earliest of the date (a) the required performance takes place, (b) payment is due, or (c) payment is received, and
The amount can be determined with reasonable accuracy.

See Regulations section 1.451-1(a) for details.

Generally, an accrual basis taxpayer can deduct accrued expenses in the tax year in which:

All events that determine liability have occurred,
The amount of the liability can be figured with reasonable accuracy, and
Economic performance takes place with respect to the expense.

There are exceptions for certain items, including recurring expenses. See section 461(h) and the related regulations for the rules for determining when economic performance takes place.

Percentage-of-completion method. Long-term contracts (except for certain real property construction contracts) must generally be accounted for using the percentage of completion method. For rules on long-term contracts, see section 460 and the underlying regulations.

Mark-to-market accounting method. Generally, dealers in securities must use the mark-to-market accounting method described in section 475. Under this method, any security that is inventory to the dealer must be included in inventory at its fair market value (FMV). Any security held by a dealer that is not inventory and that is held at the close of the tax year is treated as sold at its FMV on the last business day of the tax year. Any gain or loss must be taken into account in determining gross income. The gain or loss taken into account is generally treated as ordinary gain or loss. For details, including exceptions, see section 475, the related regulations, and Rev. Rul. 94-7, 1994-1 C.B. 151.

Dealers in commodities and traders in securities and commodities may elect to use the mark-to-market accounting method. To make the election, the corporation must file a statement describing the election, the first tax year the election is to be effective, and, in the case of an election for traders in securities or commodities, the trade or business for which the election is made. Except for new taxpayers, the statement must be filed by the due date (not including extensions) of the income tax return for the tax year immediately preceding the election year and attached to that return, or, if applicable, to a request for an extension of time to file that return. For more details, see sections 475(e) and (f) and Rev. Proc. 99-17, 1999-7 I.R.B. 52.

Change in accounting method. Generally, the corporation must get IRS consent to change its method of accounting used to report taxable income (for income as a whole or for any material item). To do so, it must file Form 3115, Application for Change in Accounting Method. For more information, see Pub. 538, Accounting Periods and Methods.

Section 481(a) adjustment. The corporation may have to make an adjustment under section 481(a) to prevent amounts of income or expense from being duplicated or omitted. The section 481(a) adjustment period is generally 1 year for a net negative adjustment and 4 years for a net positive adjustment. However, a corporation may elect to use a 1-year adjustment period if the net section 481(a) adjustment for the change is less than $25,000. For more details on the section 481(a) adjustment, see Form 3115 and Pub. 538.

Include any net positive section 481(a) adjustment on page 1, line 5. If the net section 481(a) adjustment is negative, report it on page 1, line 19.

Accounting Periods

Generally, an S corporation tax year is required to be:

A calendar year.
A 52-53 week tax year that ends with reference to a calendar year or a tax year elected under section 444.
A tax year elected under section 444.
Any other tax year for which the corporation establishes a business purpose by filing Form 1128.

A new S corporation must use Form 2553 to adopt a tax year other than a calendar year. To change the corporation's tax year, see Pub. 538 and Form 1128, Application To Adopt, Change, or Retain a Tax Year, (unless the corporation is making an election under section 444, discussed below).

Establish a business purpose. To establish a business purpose for changing or retaining its tax year on Form 1128, the corporation must establish that:

The requested tax year is the corporation's natural business year or ownership tax year under the automatic approval request provisions of Rev. Proc. 2002-38, 2002-2 I.R.B. 1037, or
There is a business purpose for the requested tax year under the ruling request provisions of Rev. Proc. 2002-39, 2002-2 I.R.B. 1046 (a user fee is required).

If the corporation changes its tax year solely because its current tax year no longer qualifies as a natural business year (or, for certain corporations, an ownership tax year), its shareholders may elect to take into account ratably over 4 tax years their pro rata share of income attributable to the corporation's short tax year ending on or after May 10, 2002, but before June 1, 2004. See Rev. Proc. 2003-79, 2003-45 I.R.B. 1036, for details. If the corporation changes its tax year and the change falls within the scope of Rev. Proc. 2003-79, the corporation must attach a statement to Schedule K-1 that provides shareholders with the information they will need to make this election.

Electing a tax year under section 444. Under the provisions of section 444, an S corporation may elect to have a tax year other than a permitted year, but only if the deferral period of the tax year is not longer than the shorter of 3 months or the deferral period of the tax year being changed. This election is made by filing Form 8716, Election To Have a Tax Year Other Than a Required Tax Year.

An S corporation may not make or continue an election under section 444 if it is a member of a tiered structure, other than a tiered structure that consists entirely of partnerships and S corporations that have the same tax year. For the S corporation to have a section 444 election in effect, it must make the payments required by section 7519 and file Form 8752, Required Payment or Refund Under Section 7519.

A section 444 election ends if an S corporation changes its accounting period to a calendar year or some other permitted year; it is penalized for willfully failing to comply with the requirements of section 7519; or its S election is terminated (unless it immediately becomes a personal service corporation). If the termination results in a short tax year, type or legibly print at the top of the first page of Form 1120S for the short tax year, “SECTION 444 ELECTION TERMINATED.”

Rounding Off to Whole Dollars

The corporation may round off cents to whole dollars on its return and schedules. If the corporation does round to whole dollars, it must round all amounts. To round, drop amounts under 50 cents and increase amounts from 50 to 99 cents to the next dollar (for example, $1.39 becomes $1 and $2.50 becomes $3).

If two or more amounts must be added to figure the amount to enter on a line, include cents when adding the amounts and round off only the total.

Recordkeeping

Keep the corporation's records for as long as they may be needed for the administration of any provision of the Internal Revenue Code. Usually, records that support an item of income, deduction, or credit on the return must be kept for 3 years from the date each shareholder's return is due or is filed, whichever is later. Keep records that verify the corporation's basis in property for as long as they are needed to figure the basis of the original or replacement property.

The corporation should keep copies of all returns filed. They help in preparing future returns and in making amended returns.

Depository Method of Tax Payment

The corporation must pay the tax due in full no later than the 15th day of the 3rd month after the end of the tax year. The two methods of depositing corporate income taxes are discussed below.

Electronic Deposit Requirement

The corporation must make electronic deposits of all depository taxes (such as employment tax, excise tax, and corporate income tax) using the Electronic Federal Tax Payment System (EFTPS) in 2004 if:

The total deposits of such taxes in 2002 were more than $200,000 or
The corporation was required to use EFTPS in 2003.

If the corporation is required to use EFTPS and fails to do so, it may be subject to a 10% penalty. If the corporation is not required to use EFTPS, it may participate voluntarily. To enroll in or get more information about EFTPS, call 1-800-555-4477 or 1-800-945-8400. To enrol online, visit www.eftps.gov.

Depositing on time. For EFTPS deposits to be made timely, the corporation must initiate the transaction at least 1 business day before the date the deposit is due.

Deposits With Form 8109

If the corporation does not use EFTPS, deposit corporation income tax payments (and estimated tax payments) with Form 8109, Federal Tax Deposit Coupon. If you do not have a preprinted Form 8109, use Form 8109-B to make deposits. You can get this form only by calling 1-800-829-4933. Be sure to have your EIN ready when you call.

Do not send deposits directly to an IRS office; otherwise, the corporation may have to pay a penalty. Mail or deliver the completed Form 8109 with the payment to an authorized depositary, i.e., a commercial bank or other financial institution authorized to accept Federal tax deposits.

Make checks or money orders payable to the depositary. To help ensure proper crediting, write the corporation's EIN, the tax period to which the deposit applies, and “Form 1120S” on the check or money order. Be sure to darken the “1120” box on the coupon. Records of these deposits will be sent to the IRS.

If the corporation prefers, it may mail the coupon and payment to: Financial Agent, Federal Tax Deposit Processing, P.O. Box 970030, St. Louis, MO 63197. Make the check or money order payable to “Financial Agent.”

For more information on deposits, see the instructions in the coupon booklet (Form 8109) and Pub. 583, Starting a Business and Keeping Records.

Estimated Tax Payments

Generally, the corporation must make installment payments of estimated tax for the following taxes if the total of these taxes is $500 or more: (a) the tax on built-in gains, (b) the excess net passive income tax, and (c) the investment credit recapture tax.

The amount of estimated tax required to be paid annually is the smaller of: (a) the total of the above taxes shown on the return for the tax year (or if no return is filed, the total of these taxes for the year) or (b) the sum of (i) the investment credit recapture tax and the built-in gains tax shown on the return for the tax year (or if no return is filed, the total of these taxes for the tax year) and (ii) any excess net passive income tax shown on the corporation's return for the preceding tax year. If the preceding tax year was less than 12 months, the estimated tax must be determined under (a).

The estimated tax is generally payable in four equal installments. However, the corporation may be able to lower the amount of one or more installments by using the annualized income installment method or adjusted seasonal installment method under section 6655(e).

For a calendar year corporation, the payments are due for 2004 by April 15, June 15, September 15, and December 15. For a fiscal year corporation, they are due by the 15th day of the 4th, 6th, 9th, and 12th months of the fiscal year. If any date falls on a Saturday, Sunday, or legal holiday, the installment is due on the next regular business day.

The corporation must make the payments using the depository method described above.

For more information on estimated tax payments, including penalties that apply if the corporation fails to make required payments, see the instructions for line 24 on page 17.

Interest and Penalties

Interest. Interest is charged on taxes paid late even if an extension of time to file is granted. Interest is also charged on penalties imposed for failure to file, negligence, fraud, substantial valuation misstatements, and substantial understatements of tax from the due date (including extensions) to the date of payment. The interest charge is figured at a rate determined under section 6621.

Penalty for late filing of return. A corporation that does not file its tax return by the due date, including extensions, may have to pay a penalty of 5% a month, or part of a month, up to a maximum of 25%, for each month the return is not filed. The penalty is imposed on the net amount due. The minimum penalty for filing a return more than 60 days late is the smaller of the tax due or $100. The penalty will not be imposed if the corporation can show that the failure to file on time was due to reasonable cause. If the failure is due to reasonable cause, attach an explanation to the return.

Penalty for late payment of tax. A corporation that does not pay the tax when due generally may have to pay a penalty of ½ of 1% a month or part of a month, up to a maximum of 25%, for each month the tax is not paid. The penalty is imposed on the net amount due.

The penalty will not be imposed if the corporation can show that failure to pay on time was due to reasonable cause.

Penalty for failure to furnish information timely. Section 6037(b) requires an S corporation to furnish to each shareholder a copy of the information shown on Schedule K-1 (Form 1120S) that is attached to Form 1120S. Provide Schedule K-1 to each shareholder on or before the day on which the corporation files Form 1120S.

For each failure to furnish Schedule K-1 to a shareholder when due and each failure to include on Schedule K-1 all the information required to be shown (or the inclusion of incorrect information), a $50 penalty may be imposed with regard to each Schedule K-1 for which a failure occurs. If the requirement to report correct information is intentionally disregarded, each $50 penalty is increased to $100 or, if greater, 10% of the aggregate amount of items required to be reported. See sections 6722 and 6724 for more information.

The penalty will not be imposed if the corporation can show that not furnishing information timely was due to reasonable cause and not due to willful neglect.

Trust fund recovery penalty. This penalty may apply if certain excise, income, social security, and Medicare taxes that must be collected or withheld are not collected or withheld, or these taxes are not paid. These taxes are generally reported on Forms 720, 941, 943, or 945 (see Other Forms, Returns, and Statements That May Be Required below). The trust fund recovery penalty may be imposed on all persons who are determined by the IRS to have been responsible for collecting, accounting for, and paying over these taxes, and who acted willfully in not doing so. The penalty is equal to the unpaid trust fund tax. See the instructions for Form 720, Pub. 15 (Circular E), Employer's Tax Guide, or Pub. 51 (Circular A), Agricultural Employer's Tax Guide, for more details, including the definition of responsible persons.

Other penalties. Other penalties can be imposed for negligence, substantial understatement of tax, and fraud. See sections 6662 and 6663.

Other Forms, Returns, and Statements That May Be Required

Schedule N (Form 1120), Foreign Operations of U.S. Corporations. The corporation may have to file this schedule if it had assets in or operated a business in a foreign country or a U.S. possession.
Forms W-2, Wage and Tax Statement, and W-3 Transmittal of Wage and Tax Statements. Use these forms to report wages, tips, other compensation, and withheld income, social security, and Medicare taxes for employees.
Form 720, Quarterly Federal Excise Tax Return. Use Form 720 to report environmental taxes, communications and air transportation taxes, fuel taxes, manufacturers taxes, ship passenger tax, and certain other excise taxes.
Form 926, Information Return of a U.S. Transferor of Property to a Foreign Corporation. Use this form to report certain information required under section 6038B.
Form 940 or Form 940-EZ, Employer's Annual Federal Unemployment (FUTA) Tax Return. The corporation may be liable for FUTA tax and may have to file Form 940 or 940-EZ if it either:
1. Paid wages of $1,500 or more in any calendar quarter in 2002 or 2003 or
2. Had one or more employees who worked for the corporation for at least some part of a day in any 20 or more different weeks in 2002 or 20 or more different weeks in 2003.
A corporate officer who performs substantial services is considered an employee. Except as provided in section 3306(a), reasonable compensation for these services is subject to FUTA tax, no matter what the corporation calls the payments.
Form 941, Employer's Quarterly Federal Tax Return or Form 943, Employer's Annual Tax Return for Agricultural Employees. Employers must file these forms to report income tax withheld, and employer and employee social security and Medicare taxes. Also, see Trust Fund Recovery Penalty on page 5. A corporate officer who performs substantial services is considered an employee. Distributions and other payments by an S corporation to a corporate officer must be treated as wages to the extent the amounts are reasonable compensation for services to the corporation.
Form 945, Annual Return of Withheld Federal Income Tax. File Form 945 to report income tax withheld from nonpayroll distributions or payments, including pensions, annuities, IRAs, gambling winnings, and backup withholding. Also, see Trust Fund Recovery Penalty on page 5.
Form 966, Corporate Dissolution or Liquidation.
Forms 1042 and 1042-S, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons; and Foreign Person's U.S. Source Income Subject to Withholding. Use these forms to report and send withheld tax on payments made to nonresident alien individuals, foreign partnerships, or foreign corporations to the extent those payments constitute gross income from sources within the United States (see sections 861 through 865). For more details, see sections 1441 and 1442, and Pub. 515, Withholding of Tax on Nonresident Aliens and Foreign Entities.
Form 1042-T, Annual Summary and Transmittal of Forms 1042-S. Use Form 1042-T to transmit paper Forms 1042-S to the IRS.
Form 1096, Annual Summary and Transmittal of U.S. Information Returns.
Form 1098, Mortgage Interest Statement. Use this form to report the receipt from any individual of $600 or more of mortgage interest (including points) in the course of the corporation's trade or business and reimbursements of overpaid interest.
Forms 1099. Use these information returns to report the following.
1. 1099-A, Acquisitions or Abandonment of Secured Property.
2. 1099-B, Proceeds From Broker and Barter Exchange Transactions.
3. 1099-C, Cancellation of Debt.
4. 1099-DIV, Dividends and Distributions, Use Form 1099-DIV to report actual dividends paid by the corporation. Only distributions from accumulated earnings and profits are classified as dividends. Do not issue Form 1099-DIV for dividends received by the corporation that are allocated to shareholders on line 4b of Schedule K-1.
5. 1099-INT, Interest Income.
6. 1099-LTC, Long-Term Care and Accelerated Death Benefits.
7. 1099-MISC, Miscellaneous Income. Use this form to report payments: to certain fishing boat crew members, to providers of health and medical services, of rent or royalties, of nonemployee compensation, etc.
  
  Note:
  
  Every corporation must file Form 1099-MISC if it makes payments of rents, commissions, or other fixed or determinable income (see section 6041) totaling $600 or more to any one person in the course of its trade or business during the calendar year.
8. 1099-MSA, Distributions From an Archer MSA or Medicare+Choice MSA.
9. 1099-OID, Original Issue Discount.
10. 1099-PATR, Taxable Distributions Received From Cooperatives.
11. 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.
12. 1099-S, Proceeds From Real Estate Transactions.
Form 3520, Annual Return to Report Transactions With Foreign Trust and Receipt of Certain Foreign Gifts. The corporation may have to file this form if it:
1. Directly or indirectly transferred property or money to a foreign trust. For this purpose, any U.S. person who created a foreign trust is considered a transferor.
2. Is treated as the owner of any part of the assets of a foreign trust under the grantor trust rules.
3. Received a distribution from a foreign trust.
For more information, see the Instructions for Form 3520.

Note:

An owner of a foreign trust must ensure that the trust files an annual information return on Form 3520-A, Annual Information Return of Foreign Trust With a U.S. Owner.
Form 5471, Information Return of U.S. Persons With Respect to Certain Foreign Corporations. This form is required if the corporation controls a foreign corporation; acquires, disposes of, or owns 10% or more in value or vote of the outstanding stock of a foreign corporation; or had control of a foreign corporation for an uninterrupted period of at least 30 days during the annual accounting period of the foreign corporation. See Question 4 of Schedule N (Form 1120).
Form 5498, IRA Contribution Information. Use this form to report contributions (including rollover contributions) to any IRA, including a SEP, SIMPLE, or Roth IRA, and to report Roth IRA conversions, IRA recharacterizations, and the fair market value of the account.
Form 5498-ESA, Coverdell ESA Contribution Information. Use this form to report contributions (including rollover contributions) to and the fair market value of a Coverdell education savings account (ESA).
Form 5498-MSA, Archer MSA or Medicare+Choice MSA Information. Use this form to report contributions to an Archer MSA and the fair market value of an Archer MSA or Medicare+Choice MSA.

For more information, see the general and specific Instructions for Forms 1099, 1098, 5498, and W-2G.
Form 5713, International Boycott Report. Corporations that had operations in, or related to, certain “boycotting” countries file Form 5713.
Form 8023, Elections Under Section 338 for Corporations Making Qualified Stock Purchases. Corporations file this form to make elections under section 338 for a “target” corporation if the purchasing corporation has made a qualified stock purchase of the target corporation.
Form 8050, Direct Deposit of Corporate Tax Refund. File Form 8050 to request that the IRS deposit a corporate tax refund (including a refund of $1 million or more) directly into an account at any U.S. bank or other financial institution (such as a mutual fund or brokerage firm) that accepts direct deposits.
Form 8264, Application for Registration of a Tax Shelter. Tax shelter organizers must use this form to register tax shelters with the IRS receive a tax shelter registration number.
Form 8271, Investor Reporting of Tax Shelter Registration Number. Corporations, which have acquired an interest in a tax shelter that is required to be registered, use this form to report the tax shelter's registration number. Attach Form 8271 to any return (including an amended return) on which a deduction, credit, loss, or other tax benefit attributable to a tax shelter is taken or any income attributable to a tax shelter is reported.
Form 8275, Disclosure Statement. File Form 8275 to disclose items or positions, except those contrary to a regulation, that are not otherwise adequately disclosed on a tax return. The disclosure is made to avoid the parts of the accuracy-related penalty imposed for disregard of rules or substantial understatement of tax. Form 8275 is also used for disclosures relating to preparer penalties for understatements due to unrealistic positions or disregard of rules.
Form 8275-R, Regulation Disclosure Statement, is used to disclose any item on a tax return for which a position has been taken that is contrary to Treasury regulations.
Form 8281, Information Return for Publicly Offered Original Issue Discount Instruments. This form is used by issuers of publicly offered debt instruments having OID to provide the information required by section 1275(c).
Forms 8288 and 8288-A, U.S. Withholding Tax Return for Dispositions by Foreign Persons of U.S. Real Property Interests; and Statement of Withholding on Dispositions by Foreign Persons of U.S. Real Property Interests. Use these forms to report and transmit withheld tax on the sale of U.S. real property by a foreign person. See section 1445 and the related regulations for additional information.
Form 8300, Report of Cash Payments Over $10,000 Received in a Trade or Business. Use this form to report the receipt of more than $10,000 in cash or foreign currency in one transaction or a series of related transactions.
Form 8594, Asset Acquisition Statement Under Section 1060. Corporations file this form to report the purchase or sale of a group of assets that make up a trade or business if goodwill or going concern value could attach to the assets and if the buyer's basis is determined only by the amount paid for the assets.
Form 8697, Interest Computation Under the Look-Back Method for Completed Long-Term Contracts. Certain S corporations that are not closely held may have to file Form 8697 to figure the interest due or to be refunded under the look-back method of section 460(b)(2). The look-back method applies to certain long-term contracts accounted for under either the percentage of completion method or the percentage of completion-capitalized cost method. Closely held corporations should see the instructions on page 27 for line 23, item 11, of Schedule K-1 for details on the Form 8697 information they must provide to their shareholders.
Form 8865, Return of U.S. Person With Respect To Certain Foreign Partnerships. A corporation may have to file Form 8865 if it:
1. Controlled a foreign partnership (i.e., owned more than a 50% direct or indirect interest in the partnership).
2. Owned at least a 10% direct or indirect interest in a foreign partnership while U.S. persons controlled that partnership.
3. Had an acquisition, disposition, or change in proportional interest of a foreign partnership that:
  1. Increased its direct interest to at least 10% or reduced its direct interest of at least 10% to less than 10%.
  2. Changed its direct interest by at least a 10% interest.
4. Contributed property to a foreign partnership in exchange for a partnership interest if:
  1. Immediately after the contribution, the corporation owned, directly or indirectly, at least a 10% interest in the foreign partnership or
  2. The fair market value of the property the corporation contributed to the foreign partnership, when added to other contributions of property made to the foreign partnership during the preceding 12-month period, exceeds $100,000.
  Also, the corporation may have to file Form 8865 to report certain dispositions by a foreign partnership of property it previously contributed to that foreign partnership if it was a partner at the time of the disposition.
For more details, including penalties for failing to file Form 8865, see Form 8865 and its separate instructions.
Form 8866, Interest Computation Under the Look-Back Method for Property Depreciated Under the Income Forecast Method. Certain S corporations that are not closely held may have to file Form 8866. Figure the interest due or to be refunded under the look-back method of section 167(g)(2) for certain property placed in service after September 13, 1995, that is depreciated under the income forecast method. Closely held corporations should see the instructions on page 28 for line 23, item 21, of Schedule K-1 for details on the Form 8866 information they must provide to their shareholders.
Form 8873, Extraterritorial Income Exclusion. Use this form to report the amount of extraterritorial income excluded from the corporation's gross income for the tax year.
Form 8876, Excise Tax on Structured Settlement Factoring Transactions. Use Form 8876 to report and pay the 40% excise tax imposed under section 5891.
Form 8883, Asset Allocation Statement Under Section 338. Corporations use this form to report information about transactions involving the deemed sale of assets under section 338.
Form 8886, Reportable Transaction Disclosure Statement. Use the form to disclose information for each reportable transaction in which the corporation participated. Form 8886 must be filed for each tax year the corporation participated in the transaction. The following are reportable transactions. Any transaction:
1. The same as or substantially similar to tax avoidance transactions identified by the IRS.
2. Offered under conditions of confidentiality.
3. For which the corporation has contractual protection against disallowance of the tax benefits.
4. Resulting in a loss of at least $2 million in any single year or $4 million in any combination of years.
5. Resulting in book-tax difference of more than $10 million on a gross basis.
6. Resulting in a tax credit of more than $250,000, if the corporation held the asset generating the credit for 45 days or less.

Statements

Stock ownership in foreign corporations. If the corporation owned at least 5% in value of the outstanding stock of a foreign personal holding company, and the corporation was required to include in its gross income any undistributed foreign personal holding company income, attach the statement required by section 551(c).

Transfers to a corporation controlled by the transferor. If a person receives stock of a corporation in exchange for property, and no gain or loss is recognized under section 351, the transferor and transferee must each attach to their tax returns the information required by Regulations section 1.351-3.

Assembling the Return

To ensure that the corporation's tax return is correctly processed, attach all schedules and forms after page 4, Form 1120S, in the following order:

Schedule N (Form 1120).
Form 8050.
Form 4136, Credit for Federal Tax Paid on Fuels.
Additional schedules in alphabetical order.
Additional forms in numerical order.

Complete every applicable entry space on Form 1120S and Schedule K-1. Do not write “See Attached” instead of completing the entry spaces. If more space is needed on the forms or schedules, attach separate sheets using the same size and format as the printed forms. If there are supporting statements and attachments, arrange them in the same order as the forms or schedules they support and attach them last. Show the totals on the printed forms. Also, be sure to enter the corporation's name and EIN on each supporting statement or attachment.

Amended Return

To correct an error on a Form 1120S already filed, file an amended Form 1120S and check box F(5). If the amended return results in a change to income, or a change in the distribution of any income or other information provided any shareholder, an amended Schedule K-1 (Form 1120S) must also be filed with the amended Form 1120S and given to that shareholder. Be sure to check box D(2) on each Schedule K-1 to indicate that it is an amended Schedule K-1.

A change to the corporation's Federal return may affect its state return. This includes changes made as the result of an IRS examination of Form 1120S. For more information, contact the state tax agency for the state in which the corporation's return was filed.

Passive Activity Limitations

In general, section 469 limits the amount of losses, deductions, and credits that shareholders may claim from “passive activities.” The passive activity limitations do not apply to the corporation. Instead, they apply to each shareholder's share of any income or loss and credit attributable to a passive activity. Because the treatment of each shareholder's share of corporate income or loss and credit depends upon the nature of the activity that generated it, the corporation must report income or loss and credits separately for each activity.

The instructions below (pages 8 through 12) and the instructions for Schedules K and K-1 (pages 19 through 28) explain the applicable passive activity limitation rules and specify the type of information the corporation must provide to its shareholders for each activity. If the corporation had more than one activity, it must report information for each activity on an attachment to Schedules K and K-1.

Generally, passive activities include (a) activities that involve the conduct of a trade or business in which the shareholder does not materially participate and (b) any rental activity (defined below) even if the shareholder materially participates. For exceptions, see Activities That Are Not Passive Activities below. The level of each shareholder's participation in an activity must be determined by the shareholder.

The passive activity rules provide that losses and credits from passive activities can generally be applied only against income and tax from passive activities. Thus, passive losses and credits cannot be applied against income from salaries, wages, professional fees, or a business in which the shareholder materially participates; against “portfolio income” (defined on page 9); or against the tax related to any of these types of income.

Special rules require that net income from certain activities that would otherwise be treated as passive income must be recharacterized as nonpassive income for purposes of the passive activity limitations.

To allow each shareholder to apply the passive activity limitations at the individual level, the corporation must report income or loss and credits separately for each of the following: trade or business activities, rental real estate activities, rental activities other than rental real estate, and portfolio income.

Activities That Are Not Passive Activities

The following are not passive activities.

Trade or business activities in which the shareholder materially participated for the tax year.
Any rental real estate activity in which the shareholder materially participated if the shareholder met both of the following conditions for the tax year:
1. More than half of the personal services the shareholder performed in trades or businesses were performed in real property trades or businesses in which he or she materially participated, and
2. The shareholder performed more than 750 hours of services in real property trades or businesses in which he or she materially participated.
  
  For purposes of this rule, each interest in rental real estate is a separate activity unless the shareholder elects to treat all interests in rental real estate as one activity.
  
  If the shareholder is married filing jointly, either the shareholder or his or her spouse must separately meet both conditions 2a and b above, without taking into account services performed by the other spouse.
  
  A real property trade or business is any real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade or business. Services the shareholder performed as an employee are not treated as performed in a real property trade or business unless he or she owned more than 5% of the stock in the employer.
The rental of a dwelling unit used by a shareholder for personal purposes during the year for more than the greater of 14 days or 10% of the number of days that the residence was rented at fair rental value.
An activity of trading personal property for the account of owners of interests in the activity. For purposes of this rule, personal property means property that is actively traded, such as stocks, bonds, and other securities. See Temporary Regulations section 1.469-1T(e)(6) for more details.

Note:

The section 469(c)(3) exception for a working interest in oil and gas properties does not apply to an S corporation because state law generally limits the liability of shareholders.

Trade or Business Activities

A trade or business activity is an activity (other than a rental activity or an activity treated as incidental to an activity of holding property for investment) that:

Involves the conduct of a trade or business (within the meaning of section 162),
Is conducted in anticipation of starting a trade or business, or
Involves research or experimental expenditures deductible under section 174 (or that would be if you chose to deduct rather than capitalize them).

If the shareholder does not materially participate in the activity, a trade or business activity of the corporation is a passive activity for the shareholder.

Each shareholder must determine if they materially participated in an activity. As a result, while the corporation's overall trade or business income (loss) is reported on page 1 of Form 1120S, the specific income and deductions from each separate trade or business activity must be reported on attachments to Form 1120S. Similarly, while each shareholder's allocable share of the corporation's overall trade or business income (loss) is reported on line 1 of Schedule K-1, each shareholder's allocable share of the income and deductions from each trade or business activity must be reported on attachments to each Schedule K-1. See Passive Activity Reporting Requirements on page 11 for more information.

Rental Activities

Generally, except as noted below, if the gross income from an activity consists of amounts paid principally for the use of real or personal tangible property held by the corporation, the activity is a rental activity.

There are several exceptions to this general rule. Under these exceptions, an activity involving the use of real or personal tangible property is not a rental activity if any of the following apply:

The average period of customer use (defined below) for such property is 7 days or less.
The average period of customer use for such property is 30 days or less and significant personal services (defined below) are provided by or on behalf of the corporation.
Extraordinary personal services (defined below) are provided by or on behalf of the corporation.
Rental of the property is treated as incidental to a nonrental activity of the corporation under Temporary Regulations section 1.469-1T(e)(3)(vi) and Regulations section 1.469-1(e)(3)(vi).
The corporation customarily makes the property available during defined business hours for nonexclusive use by various customers.
The corporation provides property for use in a nonrental activity of a partnership in its capacity as an owner of an interest in such partnership. Whether the corporation provides property used in an activity of a partnership in the corporation's capacity as an owner of an interest in the partnership is based on all the facts and circumstances.

In addition, a guaranteed payment described in section 707(c) is not income from a rental activity under any circumstances.

Average period of customer use. Figure the average period of customer use for a class of property by dividing the total number of days in all rental periods by the number of rentals during the tax year. If the activity involves renting more than one class of property, multiply the average period of customer use of each class by the ratio of the gross rental income from that class to the activity's total gross rental income. The activity's average period of customer use equals the sum of these class-by-class average periods weighted by gross income. See Regulations section 1.469-1(e)(3)(iii).

Significant personal services. Personal services include only services performed by individuals. To determine if personal services are significant personal services, consider all of the relevant facts and circumstances. Relevant facts and circumstances include:

How often the services are provided,
The type and amount of labor required to perform the services, and
The value of the services in relation to the amount charged for the use of the property.

The following services are not considered in determining whether personal services are significant:

Services necessary to permit the lawful use of the rental property.
Services performed in connection with improvements or repairs to the rental property that extend the useful life of the property substantially beyond the average rental period.
Services provided in connection with the use of any improved real property that are similar to those commonly provided in connection with long-term rentals of high-grade commercial or residential property. Examples include cleaning and maintenance of common areas, routine repairs, trash collection, elevator service, and security at entrances.

Extraordinary personal services. Services provided in connection with making rental property available for customer use are extraordinary personal services only if the services are performed by individuals and the customers' use of the rental property is incidental to their receipt of the services. For example, a patient's use of a hospital room generally is incidental to the care that the patient receives from the hospital's medical staff. Similarly, a student's use of a dormitory room in a boarding school is incidental to the personal services provided by the school's teaching staff.

Rental property incidental to a nonrental activity. An activity is not a rental activity if the rental of the property is incidental to a nonrental activity, such as the activity of holding property for investment, a trade or business activity, or the activity of dealing in property.

Rental of property is incidental to an activity of holding property for investment if both of the following apply:

The main purpose for holding the property is to realize a gain from the appreciation of the property.
The gross rental income from such property for the tax year is less than 2% of the smaller of the property's unadjusted basis or its fair market value.

Rental of property is incidental to a trade or business activity if all of the following apply:

The corporation owns an interest in the trade or business at all times during the year.
The rental property was mainly used in the trade or business activity during the tax year or during at least 2 of the 5 preceding tax years.
The gross rental income from the property is less than 2% of the smaller of the property's unadjusted basis or its fair market value.

The sale or exchange of property that is also rented during the tax year (where the gain or loss is recognized) is treated as incidental to the activity of dealing in property if, at the time of the sale or exchange, the property was held primarily for sale to customers in the ordinary course of the corporation's trade or business.

See Temporary Regulations section 1.469-1T(e)(3) and Regulations section 1.469-1(e)(3) for more information on the definition of rental activities for purposes of the passive activity limitations.

Reporting of rental activities. In reporting the corporation's income or losses and credits from rental activities, the corporation must separately report (a) rental real estate activities and (b) rental activities other than rental real estate activities.

Shareholders who actively participate in a rental real estate activity may be able to deduct part or all of their rental real estate losses (and the deduction equivalent of rental real estate credits) against income (or tax) from nonpassive activities. Generally, the combined amount of rental real estate losses and the deduction equivalent of rental real estate credits from all sources (including rental real estate activities not held through the corporation) that may be claimed is limited to $25,000.

Report rental real estate activity income (loss) on Form 8825, Rental Real Estate Income and Expenses of a Partnership or an S Corporation, and on line 2 of Schedules K and K-1, rather than on page 1 of Form 1120S. Report credits related to rental real estate activities on lines 12c and 12d and low-income housing credits on line 12b of Schedules K and K-1.

Report income (loss) from rental activities other than rental real estate on line 3 and credits related to rental activities other than rental real estate on line 12e of Schedules K and K-1.

Portfolio Income

Generally, portfolio income includes all gross income, other than income derived in the ordinary course of a trade or business, that is attributable to interest; dividends; royalties; income from a real estate investment trust, a regulated investment company, a real estate mortgage investment conduit, a common trust fund, a controlled foreign corporation, a qualified electing fund, or a cooperative; income from the disposition of property that produces income of a type defined as portfolio income; and income from the disposition of property held for investment. See Self-Charged Interest on page 10 for an exception.

Solely for purposes of the preceding paragraph, gross income derived in the ordinary course of a trade or business includes (and portfolio income, therefore, does not include) only the following types of income:

Interest income on loans and investments made in the ordinary course of a trade or business of lending money.
Interest on accounts receivable arising from the performance of services or the sale of property in the ordinary course of a trade or business of performing such services or selling such property, but only if credit is customarily offered to customers of the business.
Income from investments made in the ordinary course of a trade or business of furnishing insurance or annuity contracts or reinsuring risks underwritten by insurance companies.
Income or gain derived in the ordinary course of an activity of trading or dealing in any property if such activity constitutes a trade or business (unless the dealer held the property for investment at any time before such income or gain is recognized).
Royalties derived by the taxpayer in the ordinary course of a trade or business of licensing intangible property.
Amounts included in the gross income of a patron of a cooperative by reason of any payment or allocation to the patron based on patronage occurring with respect to a trade or business of the patron.
Other income identified by the IRS as income derived by the taxpayer in the ordinary course of a trade or business.

See Temporary Regulations section 1.469-2T(c)(3) for more information on portfolio income.

Report portfolio income on line 4 of Schedules K and K-1, rather than on page 1 of Form 1120S.

Report deductions related to portfolio income on line 9 of Schedules K and K-1.

Self-Charged Interest

Certain self-charged interest income and deductions may be treated as passive activity gross income and passive activity deductions if the loan proceeds are used in a passive activity. Generally, self-charged interest income and deductions result from loans to and from the corporation and its shareholders. It also includes loans between the corporation and another S corporation or partnership if each owner in the borrowing entity has the same proportional ownership interest in the lending entity.

The self-charge interest rules do not apply to a shareholder's interest in an S corporation if the S corporation makes an election under Regulations section 1.467-7(g) to avoid the application of these rules. To make the election, the S corporation must attach to its original or amended Form 1120S a statement that includes the name, address, and EIN of the S corporation and a declaration that the election is being made under Regulations section 1.469-7(g). The election will apply to the tax year for which it was made and all subsequent tax years. Once made, the election may only be revoked with the consent of the IRS.

For more details on the self-charge interest rules, see Regulations section 1.469-7.

Grouping of Activities

Generally, one or more trade or business activities or rental activities may be treated as a single activity if the activities make up an appropriate economic unit for measurement of gain or loss under the passive activity rules. Whether activities make up an appropriate economic unit depends on all the relevant facts and circumstances. The factors given the greatest weight in determining whether activities make up an appropriate economic unit are:

Similarities and differences in types of trades or businesses,
The extent of common control,
The extent of common ownership,
Geographical location, and
Reliance between or among the activities.

Example.

The corporation has a significant ownership interest in a bakery and a movie theater in Baltimore and in a bakery and a movie theater in Philadelphia. Depending on the relevant facts and circumstances, there may be more than one reasonable method for grouping the corporation's activities. For instance, the following groupings may or may not be permissible:

A single activity,
A movie theater activity and a bakery activity,
A Baltimore activity and a Philadelphia activity, or
Four separate activities.

Once the corporation chooses a grouping under these rules, it must continue using that grouping in later tax years unless a material change in the facts and circumstances makes it clearly inappropriate.

The IRS may regroup the corporation's activities if the corporation's grouping fails to reflect one or more appropriate economic units and one of the primary purposes for the grouping is to avoid the passive activity limitations.

Limitation on grouping certain activities. The following activities may not be grouped together:

A rental activity with a trade or business activity unless the activities being grouped together make up an appropriate economic unit and
1. The rental activity is insubstantial relative to the trade or business activity or vice versa or
2. Each owner of the trade or business activity has the same proportionate ownership interest in the rental activity. If so, the portion of the rental activity involving the rental of property to be used in the trade or business activity may be grouped with the trade or business activity.
An activity involving the rental of real property with an activity involving the rental of personal property (except for personal property provided in connection with real property or vice versa).
Any activity with another activity in a different type of business and in which the corporation holds an interest as a limited partner or as a limited entrepreneur (as defined in section 464(e)(2)) if that other activity engages in holding, producing, or distributing motion picture films or videotapes; farming; leasing section 1245 property; or exploring for or exploiting oil and gas resources or geothermal deposits.

Activities conducted through partnerships. Once a partnership determines its activities under these rules, the corporation as a partner may use these rules to group those activities with:

Each other,
Activities conducted directly by the corporation, or
Activities conducted through other partnerships.

The corporation may not treat as separate activities those activities grouped together by the partnership.

Recharacterization of Passive Income

Under Temporary Regulations section 1.469-2T(f) and Regulations section 1.469-2(f), net passive income from certain passive activities must be treated as nonpassive income. Net passive income is the excess of an activity's passive activity gross income over its passive activity deductions (current year deductions and prior year unallowed losses).

Income from the following six sources is subject to recharacterization.

Note:

Any net passive income recharacterized as nonpassive income is treated as investment income for purposes of figuring investment interest expense limitations if it is from (a) an activity of renting substantially nondepreciable property from an equity-financed lending activity or (b) an activity related to an interest in a pass-through entity that licenses intangible property.

Significant participation passive activities. A significant participation passive activity is any trade or business activity in which the shareholder both participated for more than 100 hours during the tax year but did not materially participate. Because each shareholder must determine his or her level of participation, the corporation will not be able to identify significant participation passive activities.
Certain nondepreciable rental property activities. Net passive income from a rental activity is nonpassive income if less than 30% of the unadjusted basis of the property used or held for use by customers in the activity is subject to depreciation under section 167.
Passive equity-financed lending activities. If the corporation has net income from a passive equity-financed lending activity, the smaller of the net passive income or equity-financed interest income from the activity is nonpassive income.

Note:

The amount of income from the activities in items 1 through 3 above that any shareholder will be required to recharacterize as nonpassive income may be limited under Temporary Regulations section 1.469-2T(f)(8). Because the corporation will not have information regarding all of a shareholder's activities, it must identify all corporate activities meeting the definitions in items 2 and 3 as activities that may be subject to recharacterization.
Rental activities incidental to a development activity. Net rental activity income is the excess of passive activity gross income from renting or disposing of property over passive activity deductions (current year deductions and prior year unallowed losses) that are reasonably allocable to the rented property. Net rental activity income is nonpassive income for a shareholder if all of the following apply:
- The corporation recognizes gain from the sale, exchange, or other disposition of the rental property during the tax year.
- The use of the item of property in the rental activity started less than 12 months before the date of disposition. The use of an item of rental property begins on the first day on which (a) the corporation owns an interest in the property, (b) substantially all of the property is either rented or held out for rent and ready to be rented, and (c) no significant value-enhancing services remain to be performed.
- The shareholder materially participated or significantly participated for any tax year in an activity that involved the performing of services to enhance the value of the property (or any other item of property, if the basis of the property disposed of is determined in whole or in part by reference to the basis of that item of property).
Because the corporation cannot determine a shareholder's level of participation, the corporation must identify net income from property described above (without regard to the shareholder's level of participation) as income that may be subject to recharacterization.
Activities involving property rented to a nonpassive activity. If a taxpayer rents property to a trade or business activity in which the taxpayer materially participates, the taxpayer's net rental activity income (defined in item 4) from the property is nonpassive income.
Acquisition of an interest in a pass-through entity that licenses intangible property. Generally, net royalty income from intangible property is nonpassive income if the taxpayer acquired an interest in the pass-through entity after it created the intangible property or performed substantial services or incurred substantial costs in developing or marketing the intangible property.

Net royalty income is the excess of passive activity gross income from licensing or transferring any right in intangible property over passive activity deductions (current year deductions and prior year unallowed losses) that are reasonably allocable to the intangible property.

See Temporary Regulations section 1.469-2T(f)(7)(iii) for exceptions to this rule.

Passive Activity Reporting Requirements

To allow shareholders to correctly apply the passive activity loss and credit limitation rules, any corporation that carries on more than one activity must:

Provide an attachment for each activity conducted through the corporation that identifies the type of activity conducted (trade or business, rental real estate, rental activity other than rental real estate, or investment).
On the attachment for each activity, provide a schedule, using the same line numbers as shown on Schedule K-1, detailing the net income (loss), credits, and all items required to be separately stated under section 1366(a)(1) from each trade or business activity, from each rental real estate activity, from each rental activity other than a rental real estate activity, and from investments.
Identify the net income (loss) and the shareholder's share of corporation interest expense from each activity of renting a dwelling unit that any shareholder uses for personal purposes during the year for more than the greater of 14 days or 10% of the number of days that the residence is rented at fair rental value.
Identify the net income (loss) and the shareholder's share of interest expense from each activity of trading personal property conducted through the corporation.
For any gain (loss) from the disposition of an interest in an activity or of an interest in property used in an activity (including dispositions before 1987 from which gain is being recognized after 1986):
1. Identify the activity in which the property was used at the time of disposition;
2. If the property was used in more than one activity during the 12 months preceding the disposition, identify the activities in which the property was used and the adjusted basis allocated to each activity; and
3. For gains only, if the property was substantially appreciated at the time of the disposition and the applicable holding period specified in Regulations section 1.469-2(c)(2)(iii)(A) was not satisfied, identify the amount of the nonpassive gain and indicate whether or not the gain is investment income under Regulations section 1.469-2(c)(2)(iii)(F).
Identify the shareholder's share of the corporation's self-charged interest income or expense (see Self-Charged Interest on page 10).
1. Loans between a shareholder and the corporation. Identify the lending or borrowing shareholder's share of the self-charged interest income or expense. If the shareholder made the loan to the corporation, also identify the activity in which the loan proceeds were used. If the proceeds were used in more than one activity, allocate the interest to each activity based on the amount of the proceeds used in each activity.
2. Loans between the corporation and another S corporation or partnership. If the corporation's shareholders have the same proportional ownership interest in the corporation and the other S corporation or partnership, identify each shareholder's share of the interest income or expense from the loan. If the corporation was the borrower, also identify the activity in which the loan proceeds were used. If the proceeds were used in more than one activity, allocate the interest to each activity based on the amount of the proceeds used in each activity.
Specify the amount of gross portfolio income, the interest expense properly allocable to portfolio income, and expenses other than interest expense that are clearly and directly allocable to portfolio income.
Identify the ratable portion of any section 481 adjustment (whether a net positive or a net negative adjustment) allocable to each corporate activity.
Identify any gross income from sources specifically excluded from passive activity gross income, including:
1. Income from intangible property, if the shareholder is an individual whose personal efforts significantly contributed to the creation of the property;
2. Income from state, local, or foreign income tax refunds; and
3. Income from a covenant not to compete, if the shareholder is an individual who contributed the covenant to the corporation.
Identify any deductions that are not passive activity deductions.
If the corporation makes a full or partial disposition of its interest in another entity, identify the gain (loss) allocable to each activity conducted through the entity, and the gain allocable to a passive activity that would have been recharacterized as nonpassive gain had the corporation disposed of its interest in property used in the activity (because the property was substantially appreciated at the time of the disposition, and the gain represented more than 10% of the shareholder's total gain from the disposition).
Identify the following items that may be subject to the recharacterization rules under Temporary Regulations section 1.469-2T(f) and Regulations section 1.469-2(f):
1. Net income from an activity of renting substantially nondepreciable property;
2. The smaller of equity-financed interest income or net passive income from an equity-financed lending activity;
3. Net rental activity income from property developed (by the shareholder or the corporation), rented, and sold within 12 months after the rental of the property commenced;
4. Net rental activity income from the rental of property by the corporation to a trade or business activity in which the shareholder had an interest (either directly or indirectly); and
5. Net royalty income from intangible property if the shareholder acquired the shareholder's interest in the corporation after the corporation created the intangible property or performed substantial services or incurred substantial costs in developing or marketing the intangible property.
Identify separately the credits from each activity conducted by or through the corporation.

Extraterritorial Income Exclusion

The corporation may exclude extraterritorial income to the extent of qualifying foreign trade income. For details and to figure the amount of the exclusion, see Form 8873 and its separate instructions. The corporation must report the extraterritorial income exclusion on its return as follows:

If the corporation met the foreign economic process requirements explained in the Instructions for Form 8873, it may report the exclusion as a non-separately stated item on whichever of the following lines apply to that activity:
- Form 1120S, page 1, line 19;
- Form 8825, line 15; or
- Form 1120S, Schedule K, line 3b.
In addition, the corporation must report as an item of information on Schedule K-1, line 23, the shareholder's pro rata share of foreign trading gross receipts from Form 8873, line 15.
If the foreign trading gross receipts of the corporation for the tax year are $5 million or less and the corporation did not meet the foreign economic process requirements, it may not report the extraterritorial income exclusion as a non-separately stated item on its return. Instead, it must report the following separately-stated items to the shareholders on Schedule K-1, line 23:

The shareholder's pro rata share of foreign trading gross receipts from Form 8873, line 15.
The shareholder's pro rata share of the extraterritorial income exclusion from Form 8873, line 52, and identify the activity to which the exclusion relates.

Note:

Upon request of a shareholder, the corporation should furnish a copy of the corporation's Form 8873 if that shareholder has a reduction for international boycott operations, illegal bribes, kickbacks, etc.

General Instructions