When people say the only constants in life are death and taxes, it’s probably not a coincidence. No one, other than the IRS, likes taxes. However, because filing taxes for your small business can be confusing, it’s important to get a handle on the guidelines as early as possible. You don’t want to miss a filing deadline and, with laws changing annually, you want to make sure you cross all your Ts and dot all your Is.
If your business has multiple owners, you may be considering a special allocation. A special allocation is used when a business splits up profits and losses in a way that does not correspond to the owners’ percentages in the business. This can be very beneficial in years when the business is getting off the ground, or going through changes.
To better understand special allocations, consider an example scenario: A brother and sister start a catering business. The sister puts up all the cash for startup costs, while the brother plans to pay his share in installments over the first year. The operating agreement may say that the siblings are full partners, and each of them has a 50 percent share in the business, but for the first year the sister will receive 75 percent of the profits and losses. The siblings would report a special allocation, because the company’s ownership is split down the middle, but the profits and losses are not. In this example situation, it is likely the IRS will accept the special allocation, because there is a legitimate financial reason for it.
The government pays close attention to special allocations, to ensure that business owners are not hiding potential tax revenue by, for instance, allocating all the business’ losses to an owner in a higher tax bracket.
While special allocations can be useful in making your business successful, and putting your company’s owners in a positive financial position, the IRS provisions and regulations are extremely complicated. If you want to set up a special allocation, you should consult a business lawyer who can advise you and draft language for your partnership or operating agreement that will ensure your special allocation is accepted by the IRS.
For more information about filing an application for a special allocation or for any business law representation, contact the skilled and experienced lawyers at Rothamel Law.