Retroactive S Corp Election by LLC (abridged)

[austin3515]

LLC Makes a retroactive S Corp election in March of 2003, retroactive to January 1 of 2003. The IRS allows you until March 15, 2003 to make such an election.

The question is what do you do with member contributions contributed before the member was treated as a W-2 employee? Because the S-Election is retroactive to 1/1/03, there is no self employment income. Similarly, there is no W-2 compensation because the member simply did not know during the first two months that they would in fact be a regular W-2 employee.

The literal interpretation would be, no earned income, no compensation, no contributions. The contributions made before the employee became an employee should be refunded.

But this outcome is ridiculous in so many ways. Would it be reasonable to make some assumptions and estimates about compensation prior to the election?

Any help on this cunnundrum (sp?) would be greatly appreciated.

[jquazza]

The IRS is pretty clear on that and its position is backed by a court ruling (Durando vs US). On an S-Corp, no W-2 means no compensation for pension plan purposes. You cannot consider part of the pass-through income earned during the first few months as SE income.

[austin3515]

1) What do you think about amending the W-2's to reclassify draws as compensation, thereby generating income?

2) What if, at the time the retroactive election was made, a "dummy" payroll entry was made to "gross-up" wages for fica, futa, etc., such that the impact would be the same as though the employee had been a W-2 employee from day 1?