Distributions in Excess of Basis

By Jason Watson, CPA
Posted Friday, November 3, 2023

Sounds ominous doesn’t it? It can be a big ol’ pain in the tax butt frankly. What the heck are we talking about?

We described this in Chapter 4 in good detail but the simple nuts and bolts of shareholder distributions in excess of basis goes like this- let’s say you inject $1,000 into your business as startup capital, and your business has a net ordinary business income after expenses and deductions of $20,000. Your shareholder basis is $21,000. However, due to some interesting accounting dynamics, your business has $30,000 in cash and you distribute $25,000 as shareholder distributions.

You just triggered a shareholder distribution in excess of basis by $4,000 ($25,000 less $21,000), and this creates a capital gain and associated taxes.

Two of the top three reasons this occurs are depreciation and loans which separately create a cash greater than income situation. And the third reason shareholder distributions in excess of basis is bad historical basis data.

Please refer to Chapter 4 for more details. Keep in mind that a shareholder distribution in excess of basis is not always a bad thing; it is taxed as a capital gain which might be leveraged well on a tax return for certain taxable events and positions.