Best Records to Keep for an S-Corp

A corporation becomes an S corporation by filing Form 2553, Election by a Small Business Corporation, signed by an authorized officer with every shareholder's consent. To take effect for a tax year, it is generally filed no more than 2 months and 15 days after that year begins, or at any time during the preceding year.

Keep the signed form, all shareholder consents, proof of filing and the IRS acceptance letter. If the election is ever questioned, these are the only documents that prove it exists. Our post on when to elect S corp status covers the timing decision.

Articles of incorporation or organization, the EIN assignment letter, bylaws or an operating agreement, and a record of who owns how many shares and when. Ownership matters because income, deductions and credits flow to shareholders in proportion to their stock, and every shareholder at the time of the election must consent to it. Record every issuance, transfer or redemption as it happens.

The S corporation files Form 1120-S each year, and each shareholder receives a Schedule K-1 showing their share of income, losses, deductions and credits to report on their personal return. Keep the filed return, all schedules, the K-1s and the workpapers behind them. Prior K-1s are also the starting point for basis calculations, which is why many owners keep them for the life of the company.

An S corporation that pays its owner-employees wages has the same employment tax duties as any employer: quarterly Form 941, annual Form 940 for federal unemployment tax, W-2s, and state withholding and unemployment filings. Keep pay stubs, payroll registers, deposit confirmations and every filed form. The IRS says employment tax records should be kept for at least four years after the tax becomes due or is paid, whichever is later. Our South Carolina payroll tax guide covers the state filings.

The IRS says distributions and other payments to a corporate officer must be treated as wages to the extent they are reasonable compensation for services, and it can reclassify payments that are not. Factors it lists include training and experience, duties and responsibilities, time devoted to the business, what comparable businesses pay for similar services, and compensation agreements.

Keep a short memo each year: what the owner did, roughly how many hours, the pay data you compared against, and how you set the salary. Written when the salary is set, it is far more persuasive than one reconstructed during an exam. See S corp reasonable salary.

Basis limits how much loss a shareholder can deduct and determines whether a distribution is tax-free. Shareholders file Form 7203 when they claim a deduction for their share of a loss, receive a non-dividend distribution, dispose of stock, or receive a loan repayment from the corporation. The IRS notes it can help to complete the form even in years when it is not required, so the running basis stays consistent.

Keep the original capital contribution records, every year's basis worksheet or Form 7203, and records of any money you lent the company. Our post on S corp distributions and basis explains the calculation.

Record each distribution with its date, amount and recipient, paid from the business account to the owner, not mixed with payroll. When there is more than one shareholder, distributions should track ownership percentages. Clear distribution records are what separate a distribution from wages, and from a loan, when the IRS reviews the file.

When an S corporation reimburses an owner-employee for business expenses, such as mileage, a home office or a phone, the payments stay out of wages only if they are made under an accountable plan. That means the expense has a business connection, it is substantiated to the company within a reasonable period, and any excess advance is returned. Otherwise the reimbursement is treated as taxable wages.

Keep a written plan, the expense reports, the receipts or mileage logs behind each one, and proof of payment. Our home office deduction post covers one of the most common reimbursements.

Health insurance premiums an S corporation pays for a shareholder who owns more than 2% of the stock are reported as wages on that shareholder's W-2 and are subject to income tax withholding. Under a plan for all or a class of employees, they are not subject to Social Security, Medicare or unemployment tax. Keep the policy, premium payments and the W-2 treatment, because the shareholder's own health insurance deduction depends on the premiums being paid by the corporation and reported this way.

Purchase invoices, placed-in-service dates, depreciation schedules and records of any sale or trade-in. The IRS says to keep property records until the period of limitations expires for the year you dispose of the property, because you need them to figure depreciation and the gain or loss on sale.