Many small businesses operate as pass-through entities. In these structures, the business itself does not pay income tax. Instead, the income losses, deductions, and credits “pass through” to the owners, partners, or shareholders who report this information on their individual tax returns.
This pass-through information is reported on Schedule K-1, which serves as the source document for each owner’s share of the business’s tax assets and liabilities. As a tax preparer, you’ll use Schedule K-1 to enter this information on Schedule E, Line 28 of your client’s individual return. If you work with clients who are involved in a partnership, multi-member LLC, or S Corp, it’s essential to understand how Schedule K-1 works. In this article, we’ll cover what Schedule K-1 is, when it’s required, and how it fits into the overall tax filing process.
What is a Schedule K-1?
Schedule K-1 is an IRS form used to report “pass-through” income to the IRS for tax purposes. It outlines the total income of the business and the partner’s share of business profits, losses, deductions, and credits.
Most businesses in the U.S. are structured as pass-through entities, , meaning they are not subject to corporate income tax. Instead of the business paying taxes on its earnings income is “passed through” to the stakeholders (i.e., partners and investors), who then report and pay taxes on their share as part of their individual income tax return. To do this, the business issues a Schedule K-1 to each owner. Schedule K-1 provides detailed information for each individual with ownership interest in the business and assigns tax responsibility to the owner rather than the entity itself. The amounts reported on the Schedule K-1 are also reflected on other tax forms so the IRS can apply the appropriate taxes. When you enter information from a K-1 into your TaxSlayer Pro software, the information automatically flows to the correct lines on the client’s Form 1040.
How many types of Schedule K-1 forms are there?
There are three different types of Schedule K-1 forms, each corresponding to a specific type of pass-through entity and the way income is report to owners or beneficiaries:
- Schedule K-1 (Form 1120S)
Schedule K-1 for trusts and estates (Form 1041)
This type of Schedule K-1 is prepared by the fiduciary of a trust or an estate as part of Form 1041, Income Tax Return for Estates and Trusts. If the estate or trust has Distributable Net Income (DNI) and distributes income to beneficiaries, the fiduciary issues a Schedule K-1 to each beneficiary.
The Schedule K-1 reports the beneficiary’s share of income, deductions, credits, and other tax items that must be reported on their individual return. If a beneficiary notices errors or inconsistencies, they can request a corrected Schedule K-1 from the fiduciary.
Schedule K-1 for partnerships (Form 1065)
Schedule K-1 Form 1065 is prepared by a partnership after it files Form 1065, the U.S. Return of Partnership Income. Each partner receives a Schedule K-1 detailing their share of the par. The K-1 reflects a partner’s share of income, deductions, credits and other tax items. The partner will need to report these items on Form 1040.
Schedule K-1 for s corporations (Form 1120S)
This type of Schedule K-1 is prepared by an S corporation as part of their annual tax return. The corporation issues a Schedule K-1 to each shareholder, reporting their proportional share of income, losses, deductions, and credits. Shareholders must include this information on their individual Form 1040, as the income passes through to them rather than being taxed at the corporate level.
What does Schedule K-1 include?
The details captured and reported on a Schedule K-1 may vary, depending on whether it is filed for partnerships and LLCs, corporations, or trust and estate beneficiaries. However, all Schedule K-1s include information about types of earnings, deductions, and losses for accurate reporting.
The information could include:
- Ordinary business, rental, and real estate income
- Guaranteed payments and interest income
- Dividends and dividend equivalents
- Short- and long-term capital gains and losses
- Other items, including royalties, collectibles, self-employment earnings, other income, and deductions
Who receives a Schedule K-1?
Businesses that operate as a pass-through entity are required to file a Schedule K-1 for every individual or entity that has an ownership or beneficiary interest. The following entities are required to prepare and issue Schedule K-1 forms:
- Business partnerships
- Limited liability companies (LLCs) with two or more members
- LLCs that elect to be taxed as partnerships or S corporations
- S corporations
- Trusts and estates
When are Schedule K-1s Due?
Businesses must file a Schedule K-1 on the 15th day of the 3rd month after tax year-end, usually March 15. They should file the schedule and the accompanying form with the IRS and provide copies to all relevant partners by this date. Sometimes, they can request a six-month extension if they think they will miss the deadline.
The individuals or partners who receive Schedule K-1 must include that information on their Form 1040 and file by Tax Day, usually April 15.
When will clients receive their Schedule K-1 tax form?
Schedule K-1 forms are due by March 15 (or the 15th day of the third month after the entity’s tax year ends). However, most of your clients will probably not have the form by then. Tell your clients to be patient and wait a week or so to receive the form. If they have not received it by then, you can help them contact the business to make sure the form has been sent.
How to file a Schedule K-1 for your clients
Use TaxSlayer Pro to help your clients file Schedule K-1. The form has three parts.
Part 1: The first part shows the business entity’s employer’s EIN and address. It also shows the IRS location where the tax return was filed and if it’s a publicly traded partnership.
Part 2: The second part describes the partner, shareholder, or beneficiary. It provides more detailed information about the K-1 recipient. This info includes:
- Social Security number
- Address
- Role in the entity
- Profits, losses, and the capital and assets they contributed to the partnership
Part 3: The third part covers the entity’s share of this year’s income, deductions, credits, and other items. You will include details about the entity’s income and any tax deductions or credits.
How does the qualified business income deduction impact my clients?
Pass-through entities can deduct up to 20% of their qualified business income (QBI). Not all of your clients will qualify for the complete 20%. This deduction could move the taxpayer into a lower individual tax bracket, lowering their overall tax bill.
How TaxSlayer Pro can help preparers file a Schedule K-1
TaxSlayer Pro software has unique menus to quickly and easily help you enter taxpayer data into all versions of Schedule K-1. Our software will pull the data into the appropriate place on the taxpayer’s return.
