S corp shareholder may not deduct business expenses

This tax court ruling shows the important that you have a tax advisor that is well versed in business returns.

In Vorreyer, et. al. v. Commissioner (T.C. Memo. 2022-97), the Tax Court ruled that shareholders of C&J Farms, an S corporation, could not deduct property taxes and utility expenses owed by the corporation on their personal returns. The shareholders had paid these expenses on the corporation’s behalf. They argued that if they had made a capital contribution or a loan to C&J Farms to cover the expense, the expense would have been deductible by the S corporation and passed through to them anyway. The court agreed but pointed out that the taxpayers had paid the expenses personally. The court cited several cases pointing to a long-established principle that a taxpayer cannot deduct expenses paid on behalf of another taxpayer. This principle extends to both C corporations and S corporations. Because a corporation’s business is distinct from its shareholders, a shareholder may not deduct expenses that further the business of the corporation.  

In a related case docketed with this one, the Tax Court ruled that partners in Prairieland Farms, a general partnership, could not deduct the purchase of semi-trucks for the partnership on their personal returns. Here, the taxpayers argued that the full cost of the trucks was deductible as a §179 expense. The court agreed that the while the purchase was eligible for §179 treatment, no such election was made at the partnership level on either an original or amended return. The taxpayers requested the court to make the election on Prairieland’s behalf, which the court declined to do.

In both situations the Tax Court stressed that even though the net effect of passthrough entity expenses on shareholders or partners may be the same, as the taxpayers had tried to argue, shareholders and partners cannot circumvent the rules. An S corporation is a separate taxable entity, and its expenses cannot be disregarded at the corporate level. The §179 election must be made at the entity level and cannot be made by partners on their respective personal returns.