December 1, 2012 Client Newsletter

I was talking with a long time client yesterday.  Frankly I was venting.  Way back in December 2007 the law changed concerning the late filing of S Corporation returns.  Until 2008 if you filed your S Corporation late there was no problem as long as the shareholders reported the correct amount of taxable income or loss on their returns. Things have changed dramatically.  A late penalty revenue raiser was created in 2007. The easiest way to explain why this very Draconian, extremely unfair penalty, is to provide an example of what happens if a corporation accidentally files a late return.

An S-corporation with a calendar-year end (Jan 1-Dec 31) is required to file the 1120S annual tax return on the 15th day of the third month following the close of the tax year—or March 15th of the following year. If the corporation has 3 shareholders, no extension of time to file was submitted and the return was filed on July 16th, the late filing penalty is calculated as follows:

Number of shareholders during the year = 3

Months late = 5 (March 16th – July 16th)

*if submitted on July 15th it’s only 4 months late

$195 penalty x (3 shareholders) x (5 months late) = $2,835

or $567 per month

Here is the problem.  An S Corporation return is in reality an information return.  Similar to a W2 or 1099 form.  No tax is owed on the S Corporation return.  All income flows to the individual shareholders and is paid on their individual return.  Since most taxpayers pay the tax owed with their return on a timely basis, there seems little point in assessing such a large penalty.  It is overkill. Some of our clients have been assessed this late payment penalty in the past couple of years. In many cases the late filing penalty exceeded their total federal income tax liability.  We have successfully gotten the penalty abated in all but one case...and that case is an extreme exception since the client somehow felt the need to represent themselves with IRS Appeals and got taken to the woodshed financially.  But that is another story.

But there appears to be some good news.  In researching the current status of S Corporation penalty I found a recent tax court case in which the tax court recently overruled the IRS (Ensyc Technologies, TC Summ. OP. 2012-55) and stated that forgetting to mail the return can be a “reasonable cause” for filing late and having the penalty waived.
The case revolved around an accountant who, each year, prepared the tax return for an S Corporation and mailed it to the company’s president to sign and mail to the IRS.  One year he thought he had mailed the return to the company’s president to sign and mail to the IRS, but he had mistakenly filed it away instead.   He did mail the K-1s to the shareholders, who used the data on their timely filed 1040s. Six months later, he mailed the corporate tax return, and the IRS assessed a penalty for late filing.

Keep in mind that each case is unique, and must be carefully evaluated. But if you’re faced with large penalties and an IRS fight, it pays to first review your case carefully rather than just “paying the penalty.”   Call us we are here to help.  We can only wish with all the political talk about tax fairness and fiscal cliffs maybe just maybe we will see a change in this penalty.

An S corporation cannot deduct health, dental, and other medical premiums for a shareholder who owns more than 2 percent. Their premiums should be tracked separately in the accounting system throughout the year.

• If your corporation did not pay the health insurance premiums during the year, make sure the corporation reimburses you, write a check , before the end of the year.

• Before the final payroll run next month,  we will calculate the total shareholder health, dental, and other medical insurance premiums paid or reimbursed by your corporation as this figure will be needed for the final payroll and the shareholder’s W-2.

• The amount of premiums for the year is paid to shareholder as payroll, but there is special payroll tax treatment for this payment. The amount is subject to Federal and State withholding, but it is not subject to social security or Medicare tax.

• On the W-2, we will record the amount of the premiums in box 1 wages, in the state wages, and in box 14 as “S/H Health Ins” or a similar description.

• Finally, on your individual tax return, the amount of shareholder health insurance is deducted as self-employed health insurance on the front of Form 1040

This month you will be receiving a change in rate for your Illinois unemployment tax for 2013.  Please help us to help you avoid paying late penalties and interest.  Please forward the notice of rate that you receive from IDES to us right away.  

As we get ready for the upcoming tax season we are asking you for a few comments about what you like about us and our service.  I appreciate all the great comments from our clients so far.  We are upgrading our marketing for the new tax season and real life clients with real life recommendations are great.  Thanks for your help.