Confused on Basis vs Income

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  • #2913423
    Captain Awesome
    Participant

    This question is the type that got me on my first REG attempt, and I'm still confused:

    Stahl, an individual, owns 100% of Talon, an S corporation. At the beginning of the year, Stahl's basis in Talon was $65,000. Talon reported the following items from operations during the current year:
    Ordinary loss $10,000
    Municipal interest income 6,000
    Long-term capital gain 4,000
    Short-term capital loss 9,000
    What was Stahl's basis in Talon at year end?

    A.
    $50,000
    B.
    $55,000
    C.
    $56,000
    D.
    $61,000

    So the answer was C and I am not 100% confident as to why. I netted the cap gain and loss and assumed the extra $5000 would be carried forward so I chose D. But apparently you net all together. Would I have been right if the question asked for gross income?

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    #2913657
    AusNat
    Participant

    Your question makes me think you don't have the concept of what basis is down well. A shareholder (or owner)'s basis is increased or decreased by his or her share of income items (among other things), but you can't try to tie the taxable income or gross income directly to basis like you seem to be doing.

    A few basic points:

    -Passthroughs are passthroughs. S corps and partnerships don't carry forward tax losses themselves or carry deferred tax assets or liabilities. Everything passes through to the shareholders/owners (into their capital accounts and their basis amounts and onto their tax returns)
    -Basis is in and of itself a carryforward amount. When you consider each individual item's affect on basis, there are three options: increases basis, decreases basis, or does not affect basis. Carries forward isn't an option, because basis is a carryforward amount in and of itself – amounts get added to basis in order to be carried forward.
    -Basis is calculated at the individual shareholder or owner's level for each separate activity/investment, and this happens before the actual tax return calculation. So if you find yourself getting confused by things like “but corporate owners can't actually deduct capital losses in excess of gains, they have to carry them forward,” set that aside. Basis calcs happen before that.

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    #2926200
    MrsEarlaRiopelMrsEarlaRiopel
    Participant

    @CaptainAwesome: “This question is the type that got me on my first REG attempt, and I'm still confused:
    Stahl, an individual, owns 100% of Talon, an S corporation. At the beginning of the year, Stahl's basis in Talon was $65,000. Talon reported the following items from operations during the current year: Ordinary loss $10,000; Municipal interest income 6,000; Long-term capital gain 4,000; Short-term capital loss 9,000.
    What was Stahl's basis in Talon at year-end? A. $50,000; B.$55,000; C.$56,000; D.$61,000; So the answer was C and I am not 100% confident as to why.”
    ________________________________________
    My Reply:
    Think of this REG question as owning a business. First, analyze what type of business organization structure is this taxpayer is in. Is it a sole proprietorship? Is it a partnership? Is it a C-corporation? Or, is it an S-Corporation? Second, analyze each item that belongs to, or included in these types of business organizations, and what items are passing through the individual's tax return. As mentioned above, S-corp. is similar to a partnership, the share of ordinary income (loss), deductions, and credits are being transferred or passed-through to the individual's tax return. Therefore, the calculation of Stahl basis:

    At the S-Corp level:
    Basis Beginning of the year: $65,000
    Add (less): Ordinary Income/(loss) ($10,000)
    Add: Municipal Interest Income $6,000
    Add (Less): Capital Gain/(Loss)-Netted ($5,000)
    Total Stahl Basis on the S-Corp level= $56,000

    For what is worth, analysis of business organization structures is a huge part of passing REG; since as tax preparer, we have to be good in analyzing which items are capital or income, which ones are taxable and non-taxable, and which ones are deductible and non-deductibles. Once you have this skill in you, and you love preparing tax returns, the rest will just fall into the right places.

    Business organization structure topic, the essay portion of the REG (used to be BLAW), got me a 77% in 1999. Also, I passed the new REG in 2009 with 76% but lost it due to an 18-months threshold. My latest one was in the 60s, last taken in April 2018; I only had a week of review, my fault.

    Well, good luck, you have the qualities of a good CPA candidate; I wish you the best.

    Passed: AUD (75%'08/77%'17); REG (76%'09); BLaw(77%'99); Highest: FAR (63%'11/'15); BEC (63%'11)

    Education: USAgustin-BSCom'85 (89.5/per WES); ICABC-GAP'97(12)/UBC-DAP'02/'19(27); DouglasCollege-BBA-Accounting'21(30) =158.5 credits and counting + Grandfathered-State of WA:)

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