On Schedule M-2 TT for Business, how do I split my Distribution between the AAA and OAA accounts?

[brettbrinkman]

I am working on my 2022 S-corp taxes using TT for Business 2022. Whenever I enter my total Distribution on Schedule K Line 16d the amount automatically fills in Section M-2 AAA line 7. However, I'd like to split that Distribution amount between Line 7 AAA and OAA accounts. So far, the Auto Calc does not allow me to do it.  So, I have tried to Turn off M-2 Auto Calculation where, there are two check boxes on "Schedule M-2" section that say:

- Compute M-2                 Y/N

- If yes, use Automated M-2/Retained Earnings worksheet amounts Y/N

I am selecting No to both questions, but it seems the worksheet just below the questions is still active.  All the amounts I enter turn red as if my amounts are in error.

Is there something I am missing that would allow my to keep the worksheet active but adjust the Distribution as described above? If not, how do I turn off the AutoCalc and put in the numbers I want?

Brett

[Anonymous_]

If you had to do an override in Forms Mode, then there is most likely no method of entry other than that, in which case you will have to print and mail the return.

I will ask @Rick19744 for input here.

[Mike9241]

I will assume this was never a C Corp. there are ordering rules for distributions. first distributions must come out of the AAA account until they reduce it to zero. then any excess distributions would come out of the OAA account.  generally, the OAA account represents tax-exempt interest. you may want to read the rules for distributions in the IRS instructions for the 1120S. see page 44

https://www.irs.gov/pub/irs-pdf/i1120s.pdf 

[Rick19744]

There are a number of unknowns here:

• There is no mention of whether you have a net positive or net negative adjustment
• I will also assume that there is no E&P
• Distributions cannot cause the AAA to go negative, so it is possible that Sch K and Sch M-2 distribution amount are not the same
• The ordering rules, which are impacted by bullet #1, are meant to allow the S corporation to make distributions that are not taxable to the extent of previously taxed income (which is what AAA tracks).  The OAA tracks nontaxable income and expenses associated with nontaxable income.
• However, nontaxable income does impact shareholder basis, so even though distributions may be limited by AAA, the distribution may still be tax-free as a result of contributions and nontaxable income.
• The only reason to have any distribution reflected in the OAA column is to show sourcing of the distribution.  
• Since I am not on a Windows environment, I can't provide assistance on how to get TT to handle this other than you will most likely have to use a forms mode, override and paper file the tax return.
• You may want to call TT to ask for assistance with the input, but they will need to know some of the missing facts as noted above.

[brettbrinkman]

I appreciate the information and suggestions. Here is my M-2 for 2022 on an Excel sheet. Note that my tax returns were completed by a CPA for the past 15 years.  So, the Line 1 amounts are from the CPA 2021 return (the OAA is the balance from my forgiven PPP loan). TT for Business matched all the numbers except for Line 7 $14,242 which takes Line 8 to -$1,427.  TT is forcing Line 7 to $12,815 and Line 8 to 0. I understand that Line 8 cannot go negative due to Distributions, but it's not really the Distribution, but rather the initial balance of -$39,224 that makes it negative. I reviewed several of my past returns and there are several situations that have a Distribution larger that Line 6 and Line 8 is negative.

To some extent, who cares except with the Distribution forced to a smaller amount, Schedule L Retained Earnings is off. Obviously, I can override values but then my returns do not match my Excel sheet forever going forward.

Any thoughts on this?

	TAX YEAR	2022
LINE		AAA	OAA
1	Balance beginning of year	-39,224	35,995
2	Ordinary income
3	Other additions	64,190
4	Loss page 1 line 21	-12,151
5	Other reductions
6	Combine 1-5	12,815	35,995
7	Distributions	14,242	35,995
8	Balance end of year. Subtract line 7 from line 6.	-1,427	0

[Mike9241]

we can't say whether the prior returns correctly reflected the balances in M-2. we don't know the full history of the corp so to providing correct info may not be possible.

IRC section 1368 says that distributions can't reduce the AAA to a negative amount but in determining if they do, net negative adjustments for the current year are ignored ( negative adjustments would occur if the net of lines 2 tkrough 5 were negative ) but in your case they're positive 

1368 in part

In applying this section to distributions made during any taxable year, the amount in the accumulated adjustments account as of the close of such taxable year shall be determined without regard to any net negative adjustment for such taxable year.

(ii)Net negative adjustment
For purposes of clause (i), the term “net negative adjustment” means, with respect to any taxable year, the excess (if any) of—
(I)the reductions in the account for the taxable year (other than for distributions), over
(II)the increases in such account for such taxable year.

so it seems for the AAA a/c line 7 should not exceed line 6

and from the example in the instructions the OAA account should not go negative either

this is from the 1120S instructions

For the other adjustments account, the worksheet line 3 amount is the Schedule K, line 16a, tax-exempt interest income of $5,000. The worksheet line 7 amount is $5,000, reducing the other adjustments account to zero. The remaining $60,000 of distributions aren't entered on Schedule M-2. (the example specified 16D of schedule K was $65,000. the taxpayer's basis would still be reduced by the $60K and if it goes negative he has capital gain

***

in the example, the AAA and OAA were zero at the beginning of the year. the AAA has net negative adjustments for the year.  starting out with a zero balance, net negative adjustments for the year being ignored, distributions would reduce AAA to a negative which is not allowed. 

[Rick19744]

I agree with @Mike9241 which also reaches the same conclusion as TT.

Since you have a net positive adjustment for the year, the AAA is adjusted first for this positive adjustment before determining how distributions will impact the AAA.  

As a result, TT is arriving at the correct distribution amount on line 7.

Based on the limited facts, my gut tells me that some of the prior year returns were completed incorrectly.

Is this a big deal......most likely not.  The issue is, should you be audited and an agent sees a blatant error such as that, they will most likely dig deeper into the return.