IRS Clears Up a Confusing Business Tax Reporting Question

What You Need to Know

The IRS has published new guidance about reporting losses on a tax form used to disclose pass-through entity profits.
Schedules K-2 and K-3, used to report items of international tax relevance, do not allow reporting of negative amounts.
Taxpayers should write a zero on the form and attach additional info, the IRS says.

The Internal Revenue Service has published Fact Sheet 2023-20, an FAQ-style document meant to provide guidance to pass-through entities for electronically filing Schedules K-2 and K-3 to the IRS to report negative amounts.

As noted in the fact sheet, the 2022 tax year schema for Schedule K-2 and K-3 do not permit negative values. The FAQ provides guidance to pass-through entities about how to report losses.

As detailed on the IRS website, Schedule K-2 is an extension of Form 1120-S, known as Schedule K, and is used to report items of international tax relevance from the operation of an S corporation. Schedule K-3 is an extension of Schedule K-1 and is generally used to report to shareholders their share of the items reported on Schedule K-2.

The question posed in the document goes as follows: “For the 2022 tax year, a pass-through entity receives information (for example, a Schedule K-3 from a lower-tier pass-through entity) that certain gross income amounts to be reported on the Schedules K-2 and K-3 are negative.

“However, the current schema for electronic filing of the Schedules K-2 and K-3 does not permit negative values for certain line items in Part II, Section 1 of Schedules K-2 and K-3. How should these negative amounts be reported on Schedules K-2 and K-3 to the IRS and to the partners or members?”

According to the new fact sheet, a pass-through entity electronically filing the Schedules K-2 and K-3 for the 2022 tax year should enter zero on the line items in Schedules K-2 and K-3, Part II, Section 1 for which the schema does not permit negative values.