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11741: 1120S - Line 7 on Schedule M-2


1120S Sub S Corporate

Why isn’t an amount I entered showing on line 7 of the M-2? Line 8 of the M-2 on the 1120S return should have a negative number on it but nothing shows up there and the amount on line 7 isn’t what I entered.

Line 8 can go below zero, but not due to amounts on line 7. Therefore, the amount on line 7 cannot be so great as to make the ending AAA balance on line 8 negative.

Per IRC Sec.1.1368-2(a)(3)(iii):  Decrease to the AAA for distributions. The AAA is decreased (but not below zero) by any portion of a distribution to which section 1368(b) or (c)(1) applies.

For the AAA (1120S, Sch M-2)

To determine the amount reported on line 7 lines 6 and 1 must first be considered.

  • If line 6 is positive, the amount for line 7 is limited to the lesser of line 7 or line 6.
  • If line 6 is negative, then the amount for line 7 is determined by looking at line 1.
  • If line 1 is positive, then amount for line 7 is limited to the lesser of line 7 or line 1.
  • If line 1 is negative, then no amount is allowed on line 7.

At the shareholder level, to the extent the distribution is from AAA and does not exceed the shareholder's stock basis (as so increased by positive items), the distribution will be tax-free to the shareholder. Any excess AAA distribution will create capital gain.

To the extent the distribution is from AE&P, it will be taxable as a dividend to the shareholder and not affect stock basis. Any part of the distribution that is not sourced to AAA or AE&P reduces any remaining stock basis to the extent thereof.

Any part of the distribution still not classified is a capital gain. Finally, negative items are passed through to the shareholder to the extent of any remaining stock basis. To the extent negative items exceed stock basis they are suspended under the same rules in effect prior to the Act.


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