Question

Steven, Jennifer and Randy are all 1/3 shareholders in a calendar year-end S corporation that generated $90,000 of business income this year. Randy suffered some health issues recently, and so Steven and Jennifer decide they would like to allocate only 25% of the income to Randy in order to lower his tax liability for the year. How much income will be allocated to Randy?

Answer 1

Randy would be allocated 25% of the business income if Steven and Jennifer's plan were to be followed, which amounts to $22,500 of the $90,000 income. However, such a reallocation may not adhere to IRS rules for S corporations.

Step-by-step explanation:

The question relates to the allocation of business income in an S corporation with three 1/3 shareholders. In this scenario, Steven, Jennifer, and Randy are shareholders who typically would each receive one-third of the corporation's $90,000 income. However, Steven and Jennifer wish to allocate only 25% of the income to Randy to lower his tax liability. Despite their intentions, S corporation income must be allocated according to the percentage of ownership unless all shareholders agree to a different distribution in a special allocation outlined in the company's operating agreement and the allocation meets IRS requirements for economic substance.

With that said, and taking the question at face value, if it were possible to adjust the allocation as Steven and Jennifer want, Randy would receive 25% of $90,000, which is $22,500. However, it should be noted that normally this would not be allowed under S corporation rules, which dictate that the distribution must match the ownership percentage unless there's a valid agreement and economic reason to do otherwise.