Question

Chaos Corp., a calendar year S corporation, had the following shareholder transactions during the year: Max and Barbara (unrelated) owned 50% each through May 31. On May 31, Barbara sold one-half of her shares to Siegfried. On September 15, Barbara bought all of Max's shares and then on October 31, Barbara bought all but 1% of the shares back from Siegfried (thus after October 31, Barbara owned 99% and Siegfried owned 1%). If Chaos wishes to allocate business income to the different periods based on the normal accounting rules, which shareholders must approve that decision?

a) Max, Barbara and Siegfried
b) Barbara and Siegfried (as year-end owners)
c) Barbara only (as majority shareholder)

Answer 1

In the case of Chaos Corp., an S corporation, all shareholders Max, Barbara, and Siegfried must approve the decision on how to allocate the business income as their shareholdings have changed throughout the year.

Step-by-step explanation:

When dealing with the allocation of business income among shareholders in an S corporation, it's important to remember that S corporations are pass-through entities, meaning income, losses, deductions, and credits flow through to the shareholders for federal tax purposes. According to standard accounting rules, the allocation of income must be done in accordance with the shareholders' ownership interests during the year. In the scenario provided, since there were multiple shareholders throughout the year with varying ownership interests, all shareholders, i.e., Max, Barbara, and Siegfried would need to approve the allocation of income, as each shareholder's portion of income would be affected by the allocation period in which they had an interest in the company.