Dividends vs. Basis in my company

Discussion in 'Growing and Managing a Business' started by digdom, Jun 21, 2011.

  1. digdom

    digdom
    uix_expand uix_collapse
    New Member

    Joined:
    Jun 21, 2011
    Messages:
    2
    Likes Received:
    0
    Hello,

    As the owner of an S-Corporation, I've traditionally taken out about half my compensation in salary and half in dividends. A few years ago, we filled up an almost $200,000 line of credit during a major move/expansion. That was right before the economy went into the tank. We've made it through the storm so far, but we haven't been able to knock down the principle much. Recently, though, my accountant told me that I should not be taking dividends anymore because my basis in the company is less than the amount of debt. Does this sound accurate? It definitely caught me off guard, and this accountant has been less than reliable in the past; so, I thought I'd throw it out to this forum.

    Thanks in advance for any advice.
     
  2. ArcSine

    ArcSine
    uix_expand uix_collapse
    Member

    Joined:
    Jun 2, 2010
    Messages:
    233
    Likes Received:
    187
    Your stock basis isn't related to the amount of debt on the corp's balance sheet (other than a possible indirect relationship from a so-called leveraged recap, here referring to a situation in which you had used some/all of the credit line proceeds to pay yourself a dividend; doesn't sound like the case here).

    Your accountant's suggestion may be valid, though, for either of two possible reasons:

    • Your stock basis is zero or minimal. Again, this is unrelated to any debt amounts. But dividends in excess of your basis will usually trigger taxable income to you.
    • The higher-than-normal debt level is boosting your debt/equity ratio to unhealthy levels, and dividend distributions would just exacerbate the problem. Note that here the comparison is of Debt to Book Equity, not to Tax Basis.

    So while both of these reasons are valid for curtailing dividends, the Tax Basis / Debt comparison isn't relevant.
     
    • Like Like x 1
  3. Fergal

    Fergal
    uix_expand uix_collapse
    Premium Member
    Premium Member

    Joined:
    Nov 18, 2007
    Messages:
    10,575
    Likes Received:
    1,165
    Welcome to our business forum digdom. Has the dividends you have been taking from the company related to the company profits, e.g. do you take a lower dividend in the event that profits are lower? If you can afford to, it would seem like a good idea to reduce that debt by taking less from the company. Is there a reason why you don't want to do that?
     
  4. digdom

    digdom
    uix_expand uix_collapse
    New Member

    Joined:
    Jun 21, 2011
    Messages:
    2
    Likes Received:
    0
    Thanks for the input! All of the debt is related to build out expenses and business equipment, so dividends were never funded by credit. After getting my accountant's advice, I stopped taking any dividends at all. To make up for the loss in personal income, I just replaced the dividends with extra payroll. But then, of course, I'm subject to more payroll tax on the personal and corporate side.
     

Share This Page