There is a difference and it's important. Do you have a regular S corporation or you have an LLC with 2 partners that has chosen to be taxed as an S corporation? You state that you have an S corp with 2 partners (equity account). In a regular S corporation, there are stock certificates issued to each shareholder for his percentage of the company ownership. A partnership is a different animal entirely. Do you have shareholders or partners?
It is S Corp. Set up with 100 shares of stock with no value, each one owned 50 shares. Partner 2 signed over her shares and any interest in the company for the $2500.
Technically, you purchased her stock for $2500. It's the same as if you purchased IBM Stock. You purchased 50 shares of the stock on whatever date for that amount. She sold 50 shares of stock that she paid $4500 to acquire to you for $2500. If the original date of the contribution was within twelve months, it is a short term loss on her Schedule D of her personal tax return. If it date of sale is more than one year after the original purchase, then it is a long term loss. She doesn't get anything else back.
On your books, just make a journal entry to combine the two equity accounts into one. Be sure to notify your tax professional about this. The K-1's from the corporate tax return will need to be pro-rated because she will have to report 50% of the company profit or loss for the period that she owned her 50% share of the stock. You will have to report your half for that period and then the total profit or loss from the time that you owned 100%.
Okay, so I do a journal entry to move selling partner's $4500 equity into buying partner's equity account. Do I then remove the other account, or leave it alone?
Do I record somewhere, in someway, the amount paid by the buyer?
Just make the account inactive once the balance is zero. If it happened like you said, you paid the other person the money for their shares, then that was between you and them and the company had nothing to do with the deal. There is no other entry needed. If it didn't happen like you said and the Company paid the other person, then it's treated entirely differently.
Ok, thank you very much for your advice. I believed that was correct, a personal transaction between buyer and seller, and amount paid did not go into company books anywhere. But I wanted verification, since it was an S Corp, I was afraid I'd be told it didn't work that way.
Also, I had no idea what to do about the equity accounts. I didn't know if I could just move seller's equity to buyer's without showing the transaction tied to some expense account or not. Or if that was even the correct thing to do.
Again, thank you.
You're fine. There is no expense on the company's part because it was a personal transaction between you two. The equity accounts in an S corp didn't legally have to be split anyway. It really should be in an equity account called Additional Paid In Capital. At this point, you should have APIC, Retained Earnings and an account called Dividend Draws in the equity section. The Dividend Draws account is where you charge checks for money that you take out of the company. They are not a company expense. This account is closed to Retained Earnings on the first day of each year for the prior year to zero it out.
