Getting Ready to Prepare Form 1120S
The key to preparing a tax return for a subchapter S corporation requires a methodical process. I'll quickly explain the process I use when preparing corporate tax returns.
Process I Use When Preparing a Corporate Return
- Obtain financial documents and data from the client.
- Review that data and make a list of preliminary questions.
- Interview the client.
- Prepare work papers to show how the data gets from the client's documents to the tax return.
- Identify questions, concerns, discrepancies and missing information.
- Follow up with the client.
- Review the tax return for accuracy and completeness.
- Review the tax return with the client.
Financial Documents and Data Needed for the Form 1120S
Before you begin, you'll need a set of documents and data to work with. Documents and data should be obtained from the client before beginning work on the tax return. Hence, the first step is to meet with the client to go over their financial documents. During this meeting, you should be asking questions so you can understand their financial documents, the nature of their business, and to find answers to the check-box style questions appearing on page two of the Form 1120S.
At a minimum the corporation needs to provide the person preparing their tax return with:
- an income statement (also called a profit and loss statement) for the tax year
- a balance sheet for the tax year (preferably showing a comparison to the previous year's numbers)
- A listing of all fixed assets. This will be helpful for preparing the depreciation entries.
- A detailed listing of all transactions related to the capital accounts of the shareholders (such as capital contributions, distributions, dividends, buyouts, and so forth).
- A detailed listing of all transactions involving loans from or loans to shareholders (such as loans advanced, loan repayments, interest paid or received).
- A list of all the shareholders including their name, address, Social Security number, the percentage of ownership, whether their percentage of ownership changed during the year.
- A breakdown of salaries and wages paid. The breakdown needs to show how much was paid to the officers of the corporation, versus how much was paid to staff. This data will be needed for Form 1125-E, Compensation of Officers.
- Detailed listing of all income tax payments, such as estimated tax paid to the federal and state tax agencies, as well as extension payments.
- Answers to the questions on page 2 of the Form 1120S.
Review the Documents and Data
- Do you have enough data to begin preparing your work papers and drafting out the tax return?
- Do the financial statements make sense to you?
- Are there any items that need clarification or explanation?
- What data is missing or incomplete?
Interviewing the Client
After reviewing the client's financial documents and data, you should have a list of questions. This might relate to additional pieces of information you need, or clarification of what their numbers mean.
The goal is to gather the missing information you need, so you can start preparing the tax return.
Workpapers function to show how data gets from your client's source documents to the tax return.
For example, suppose you see the following line items on the client's income statement:
Radio advertising... $1,234
Yelp advertising... $687
Google advertising... $3,650
I used to prepare corporate returns by entering data from the client's income statement and balance sheet directly into my tax preparation software. In other words, I would have the client's financial statements printed out and sitting by my keyboard. I would open the tax software, and start entering data into the tax software, referring to the printed financial statements. That process served me well for several years until a certified public accountant showed me a better process to use.
What's this better process? To build working papers that show how the data gets from the client's financial statements to the tax return. You can use the organizers or input sheets provided your tax software. Or you can build your own working papers.