What are the tax consequences of business distributions?
A business can distribute cash or property to its owners. The tax consequences of the distribution to the owner will depend on the type of business entity that is involved. Distributions are sometimes included in the taxable income of the owner and sometimes not. Additionally, it is important to understand the impact of a distribution on an owner’s tax basis. Although myriad business entities exist, the following types will be discussed here: C corporations, S corporations, partnerships, sole proprietorships, limited liability companies (LLCs), limited liability partnerships (LLPs), limited partnerships (LPs), and professional corporations (PCs).
Impact on specific business entities
Tax treatment will vary, depending on the type of business entity you select.
C corporations
C corporations may distribute money or property to shareholders. The method used to make a corporate distribution will determine the tax consequences of the withdrawal. You need to be aware of the following concepts:
- Dividends
- Return of capital
- Wages for services
- Fringe benefits
- Loans
- Rent payments
S corporations
Calculation of the amount that can be distributed from an S corporation without current tax consequences is somewhat complicated. It involves an analysis of the relationship between income, basis, and distributions.
Partnerships
You should be aware of how withdrawals from a partnership affect your basis in the partnership and of the extent to which these withdrawals may be taxable.
Sole proprietorships
In general, the sole proprietor may transfer or withdraw assets from the business without tax consequences.
Limited liability companies (LLC)
LLCs generally follow the same distribution rules as general partnerships.
Limited liability partnerships (LLP)
Like limited liability companies, LLPs generally follow the same distribution rules as general partnerships.
Limited partnerships (LP)
LPs generally follow the same distribution rules as general partnerships.
Professional corporations (PC)
PCs generally follow the same distribution rules as C corporations.
