Question

Henry is a 60% partner in HJ Partnership. This year, the tax form he receives from HJ (Schedule K-1 of Form 1065) shows business income of $89,680. During the year, Henry received a $15,625 distribution from HJ. Assume Henry's basis in the partnership is $31,250.

a. How much must Henry report on his Form 1040 from HJ for the tax year?

b. Assume HJ is a S corporation. How much must Henry report on his Form 1040 from HJ for the tax year?

Answer 1

a) When HJ is a Partnership Firm :

A partnership is business structure between 2 or more partners who agree to share profits and losses in the agreed ratio.Generally, the partnership firm does not pay taxes on its income. It enjoys a "pass-through" status, where the income is distributed to the partners of the firm in the ratio agreed, and the partner's are liable to pay taxes on their share of income from the partnership whether or not the income is distributed.

In the given case, the business income as mentioned in Schedule K-1 is $89,680, out of which Henry's share   of income from the partnership firm is 60% which is $53808 (60% of $89,680). Hence, Mr.Henry shall report the income in the form 1040 and pay taxes on the same at the applicable rates.

b) When HJ is a S Corporation :

In this case , HJ is treated as a Corporation & not as a partnership firm. When HJ is a Corporation, the laws of partnership will not apply and the regular tax laws shall apply. Hence, the Corporation cannot enjoy the pass-through status and has to pay tax on the entire income of $89680.

Since the entire income is taxable in the hands of the S Corporation, the same shall not be taxed again in the hands of the partner. Therefore, in the given case Mr.Henry need not pay tax on the same.