Preparing IRS Form 1040 Schedule E for Shareholders and Landlords
Schedule E for S-Corporation Shareholders
Certain business entities, including S-corporations, pass their profits and losses through to the owners or shareholders of the business. These individuals must then report the information on their own personal tax returns, on Schedule E and on IRS Form 1040.
An S-corp doesn't pay any income tax of its own, although it's required to file Form 1120S if it has more than one owner or shareholder. This return reports the profits that pass to each individual shareholder.
An S-corp must issue a Schedule K-1 to each of its shareholders, reporting that individual's share of business income, losses, credits, and deductions.
Most tax software programs have a Schedule K-1 input screen where you can type in the information from the K-1 to a form that looks exactly like the K-1.
Technically, Schedule E is for "supplemental income and loss," and this encompasses more than just pass-through income from partnerships and S corps. Part I of the form is reserved for rental income and royalties. Information regarding your pass-through income reported on Schedule K-1 is entered in Part II. Estate and trust distributions go in Part III, and there's a small Part IV for reporting income or losses from real estate mortgage investment conduits.
You would only use the part of the form that's applicable to the type of income or losses you're reporting—you can ignore the others.
Business Income or Loss
Ordinary net business income or loss is generally reported on Schedule E. Other sources of income are reported on their own schedules, then entered on the appropriate line of the 1040 tax return.
For example, interest and dividends passed through by an S-corporation to a shareholder are reported on Schedule B. Capital gains are reported on Schedule D. Your tax software program will take the information on the K-1 input screen and report the income and expense amounts in the right place. You might want to seek the guidance of a tax professional if you're not using software.
Rental income—or losses—are reported on Schedule E provided that you don't operate your rental properties as a business. You don't manage several properties as your livelihood, or even a portion of your livelihood. You don't provide a variety of services to your tenants.
The IRS would most likely consider you to be self-employed if you're actively involved with your rentals. You would file Schedule C rather than Schedule E, and you would be subject to the self-employment tax in addition to income tax. Again, consult with a tax professional to make sure you get it right.
Schedule E for Royalties
Like rental income, Schedule E is only appropriate for reporting royalties if you're not self-employed. Authors, songwriters, and others who might be expected to hold copyrights are generally self-employed by IRS standards. They would file Schedule C, not Schedule E, for royalties received.
The distinction is whether you personally hold the copyright and if publishing is an ongoing activity for you, not a one-and-done isolated deal. If so, the IRS takes the position that you created the asset with the intention that it would earn income, so you're self-employed and subject to the self-employment tax. Check with a tax professional to make sure of your status.
Schedule E Losses
The good news is that you can deduct your costs of doing business on Schedule C, whereas Schedule E losses are limited to the amount the IRS considers that you were "at risk" for. For example, your partnership might have lost $10,000 over the course of the year, but if you're not responsible for reimbursing that $10,000, you're not at risk and it's not a Schedule E loss.
If you invested $10,000 of your own cash, however, and the partnership lost that money, it's most likely a loss. You were at risk for losing that amount.
Request an Extension If You're Filing As a Shareholder
The first thing any S-corporation shareholder should do is request an automatic extension of time to file his tax return. The deadline for the corporation’s Form 1120S is March 15. Few S-corporations can actually meet this deadline and most will take extensions of their own. S-corporations can file Form 7004 to request an automatic extension of six months until Sept. 15 to file their 1120S returns.
S-corporations won't issue Schedule K-1s until their Forms 1120S are completed, so shareholders will have to wait to file their own returns until the corporate return is finished. Shareholders should request an automatic extension as well, making their personal tax returns due Oct. 15 rather than April 15, so they don't find themselves up against the wall time-wise.
A Note About Schedule K-1s
Not all Schedule K-1s are the same. They don’t all reflect only S-corporation tax information. You might also receive a Schedule K-1 if you’re a partner in a business if you're the beneficiary of an estate or trust that has passed tax liability for its earnings on to you.
All these Schedule K-1s report similar information, but they’re slightly different. If you receive multiple Schedule K-1s or expect to, you might do best to take them to a tax professional so you can be sure that all information in reported correctly on your Form 1040.
NOTE: Tax laws change periodically, and you should consult with a tax professional for the most up-to-date advice. The information contained in this article is not intended as tax advice and is not a substitute for tax advice.