Current law on Sub-Chapter S and Limited Liability Companies can be summarized as follows:

S Corporations

For Federal income tax purposes, an S corporation generally is not subject to tax at the corporate level.  Items of income (including tax-exempt income), gain, loss, deduction, and credit of the S corporation are taken into account by the S corporation shareholders in computing their income tax liabilities (based on the S corporation’s method of accounting and regardless of whether the income is distributed to the shareholders). A shareholder’s deduction for corporate losses is limited to the sum of the shareholder’s adjusted basis in its S corporation stock and the indebtedness of the S corporation to such shareholder. Losses not allowed as a result of that limitation generally are carried forward to the next year. A shareholder’s adjusted basis in the S corporation stock generally equals the sum of (1) the shareholder’s capital contributions to the S corporation and (2) the shareholder’s pro rata share of S corporation income, less (1) the shareholder’s pro rata share of losses allowed as a deduction and certain nondeductible expenditures, and (2) any S corporation distributions to the shareholder.

In general, an S corporation shareholder is not subject to tax on corporate distributions unless the distributions exceed the shareholder’s basis in the stock of the corporation.

Limited Liability Companies as Taxed as Partnerships

Partnerships generally are treated for Federal income tax purposes as pass-through entities not subject to tax at the entity level.  Items of income (including tax-exempt income), gain, loss, deduction, and credit of the partnership are taken into account by the partners in computing their income tax liability (based on the partnership’s method of accounting and regardless of whether the income is distributed to the partners). A partner’s deduction for partnership losses is limited to the partner’s adjusted basis in its partnership interest. Losses not allowed as a result of that limitation generally are carried forward to the next year. A partner’s adjusted basis in the partnership interest generally equals the sum of (1) the partner’s capital contributions to the partnership, (2) the partner’s distributive share of partnership income, and (3) the partner’s share of partnership liabilities, less (1) the partner’s distributive share of losses allowed as a deduction and certain nondeductible expenditures, and (2) any partnership distributions to the partner. Partners generally may receive distributions of partnership property without recognition of gain or loss, subject to some exceptions.

Partnerships may allocate items of income, gain, loss, deduction, and credit among the partners, provided the allocations have substantial economic effect. In general, an allocation has substantial economic effect to the extent the partner to which the allocation is made receives the economic benefit or bears the economic burden of such allocation and the allocation substantially affects the dollar amounts to be received by the partners from the partnership independent of tax consequences.

State laws of every State provide for limited liability companies (“LLCs”), which are neither partnerships nor corporations under applicable State law, but which are generally treated as partnerships for Federal tax purposes.