S-Corporations vs. LLC's

S-corporations and multi-member LLC's are taxed both as flow through entities. As flow through entities, in essence, the taxable income is passed from entity to the individual shareholders 1040 via a K-1.

However, there are differences between LLC's and S-Corporations. While both provide limited liability to the owners, LLC's permit losses in excess of basis, while S-corporations losses if in excess of basis are not deductible. While S-corp's are exempt from local tax, LLC gains are not.

With a tax on Medicare of 1.45% for both the employee and employer for example is another difference. For a highly profitable S-corporation, if a salary is paid of $106,800, which is the SE limit, and income in excess of this is paid to the shareholders in the form of a distribution, the gain is non-taxable for Medicare purposes.

Partnership Capital Accounts and 754 Basis Changes

Partners in a partnership, have a capital account that track's the cumulative earnings or losses of the partnership interest. On the date the partnership beings, the book value should reflect the FMV of the partnership. One unique feature of partnerships is the fact that special allocations can be made for partnership income/loss. This however, usually increases audit risk of the partnership.

Capital accounts differ from basis. Capital accounts are calculated with the FMV contributions, plus percentage of earnings, minus distributions, minus losses. Basis changes as depreciation of partnership assets occur. A 754 step-up can occur when a partner sells his partnership interest, which is a transaction that increases inside basis in the partnership. This step-up in is depreciated on the partnerships books. A 754 election is made by attaching a written statement to the 1065 filed by the due date. The statement must include information on the partnership. Once the election is made, it cannot be revoked without IRS consent.