For S-Corp Form 1120S where the shareholder is a 2% shareholder:
Where on Schedule K1 should I enter the health insurance amount that was paid (where federal income tax was withheld) so that the shareholder can claim deduction on their 1040 form later?
You should report the amount of health insurance paid on line 17 of schedule K-1 (1120S) with code AC - Other information and describe it as Self-employed health insurance.
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You can use any method to let the taxpayer know the amount. There is no need to enter it on the K-1. Although you could put it on Line 17 with code AC, there is no need to do so.
The usual method is to put a notation in Box 14 of their W-2.
That amount was added to Box 1 of their W-2s, right?
What do you mean by "(where federal income tax was withheld)"?
When entering the K-1, there will be a check-box about health insurance. Check that box and answer ALL of the followup questions (including when it asks you for Box 5 of your W-2).
here is from the IRS instructions for the line for compensation to officers
Report amounts paid for health
insurance coverage for a more-than-2%
shareholder (including that shareholder's
spouse, dependents, and any children
under age 27 who aren't dependents) as
an information item in box 14 of that
shareholder's Form W-2. A more-than-2%
shareholder may be allowed to deduct
such amounts on Schedule 1 (Form 1040
or 1040-SR), line 16. To find out if the
shareholder can claim this deduction, see
Self-Employed Health Insurance
so the answer is it goes on your w-2 as line 1 compensation and is added to the compensation to officers on line 7 on the 1120S page 1.
failure to include it on w-2, if caught, then corp gets no deduction and shareholder gets no deduction on 1040.
the amount included in wages is then footnoted in box 14 of w-2. when doing 1040, you'll have to input this amount to get the deduction. the IRS should really add a code for box 12, but it doesn't exist presently
you can also include the amount as a footnote for line 17d of Schedule K.