Half year Sole Proprietor and half year S-corp

[wubeibei]

I formed a professional corp and became S-corp in July. How does it affect my tax return this year? Specifically, will the section 179 depreciation from my self-employe business get recaptured because I am no longer self-employed? I will still be using those assets for S-corp though. Thank you.

[dsoile]

Hello wubeibei

Assuming you filed Form 2553 this year, and have received a letter from the IRS accepting your S-Corp election, then for the 2024 tax year, you will be treated as an S-Corp. Since you applied for S-Corp status this year (2024), your new entity status will not impact your 2023 tax return, being that, you filed as a sole-proprietor based on what you have mentioned. Section 179 recapture will apply if you stopped using the business assets before the end of their useful life for whatever reason (assets were sold, destroyed, or stolen) or the use of these assets for business purposes dropped below 50%. If either of these criteria do not apply, then there is no Sec 179 depreciation recapture, since you are just transfering the assets to the S-Corp, hence, meaning these assets are still being used for business purposes. 

I hope this helps

[K M W]

As you became an S Corp part way through the year, you will report the business transactions for the first half of the year on your personal tax return, Schedule c.  For the last half of the year you will now report the business transactions on Form 1120S, U.S. Income Tax Return for an S Corporation.

As for how assets are handled for the transition, it depends on how the "Transition" occurred. Were you originally a Single Member LLC being taxed as a sole proprietor, and elected S Corporation tax treatment part way through the year (i.e. it's the same legal entity, but you just elected to be taxed differently)? Or did you create a new entity mid-year and contribute the assets to the new entity?  If you created a brand new entity, then technically you have to segregate the two businesses - your old business, operating as a sole proprietor, stopped doing business.  What happened to the assets of the old sole proprietorship? Did you sell them to the new legal entity? Did you just contribute them to the new legal entity? The tax treatment will depend on how you "changed" from sole proprietor to S Corporation and whether it's still the same legal entity (just taxed differently) or if it's a new legal entity.

[wubeibei]

I got a new legal entity mid year and became S-corp after that.  I will continue using all the assets I depreciated in the new business. Should I stop the use of those assets on Turboxtax and claim new depreciation for S-corp? 

[ScottT3]

Hello!

Are you asking if you can re-start depreciation for the S-Corporation? If so, the answer is no. You would claim "prior depreciation" so that the depreciation schedules remain the same.

[K M W]

Great follow-up question!

To address the question, I first have to make the assumption that you are the sole shareowner of the S-Corporation, or that you own at least 80% of the corporation.  The information below is based upon that being true - if it is NOT true (i.e. you own less than 80% of the corporation), then there would be a different answer.

So, assuming you do own at least 80% of the new S corporation, generally speaking the transfer of assets from your sole proprietorship to the S Corp would qualify for a "Section 351 transfer", meaning there you would NOT recognize a gain or loss, and the assets transfer to the S Corp at your adjusted basis. The S Corp would simply continue with the holding period and depreciation method you had when you were a sole proprietorship.  For example, if you had a desk that you purchased in 2022 for your business, you would have started depreciating in 2022, based on the actual cost of the desk. When you transferred this asset to the S Corporation, you would transfer the same cost, the same date placed in service, and indicate the amount of accumulated depreciation for the amount of depreciation deductions you took on that desk when it was  part of your sole proprietorship business. There are some special rules to this treatment if there are other factors to consider, such as if the Fair Market Value of the assets was less than your adjusted basis, or if there was a transfer of liabilities, etc., but if this was just the creation of the S Corp and you transferring the assets to the S Corp, those special situations may not apply.

It's important to note that you have to transfer the assets to your new S Corp legally. In terms of desks and computers those are fairly straight forward, however, if you are speaking of assets such as a vehicle or a building that is registered/titled to you as an individual, you would have to go through the process of legally transferring title to the S Corporation for them to become assets of the Corp.

I hope that helps answer your follow up questions!

[dsoile]

Even though your business has changed from sole-proprietor to S-Corp, you cannot  rewind (re-start from the beginning of assets' useful life) taking depreciation on the assets you will still be using for the business.