United States

Impact of section 1411 on S corporations and their shareholders

Consider the new 3.8 percent tax on net investment income

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Section 1411 and the final regulations raise a number of issues for S corporations and their shareholders regarding the impact of the additional 3.8 percent tax on net investment income. While the final regulations address many areas of uncertainty under the prior proposed regulations, this article discusses several issues that remain for S corporations and their shareholders to carefully consider.

One of the first determinations to be made is whether an S corporation shareholder materially participated in the business. If the shareholder materially participated in the business, the shareholder's share of the trade or business income is not treated as net investment income and is therefore not subject to the additional 3.8 percent tax. If the shareholder did not materially participate in the business, the shareholder's allocable portion of the business income is considered passive income and is includible as net investment income. A potential tax planning opportunity to consider is an election to group activities under Sec. 469 to meet the material participation requirements. Additional tax considerations include the implications of having qualified trusts as S corporation shareholders or undertaking common shareholder-S corporation transactions.

Authors Becki Sand and Ed Decker conclude in their article, Impact of section 1411 on S corporations and their shareholders, first published in The Tax Adviser, that because of the nuances of section 1411, a thorough review of each taxpayer's individual facts should be performed to determine any effects the new law and associated regulations may have.

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