Square cannot provide advice on tax issues. This article is for educational purposes and does not constitute legal, tax, or financial advice. For specific advice applicable to your business, please contact a professional.
If you own a small business, you likely need to know about Internal Revenue Service (IRS) Schedule K-1. Schedule K-1, sometimes called Form K-1 or K-1, breaks down the personal tax liability of qualifying business owners and investors. The need for a Schedule K-1 depends on your business entity type, and the results come from your company’s annual business tax return. Here’s what every small business should know about Schedule K-1.
What is Schedule K-1?
Schedule K-1 is a form business owners and the IRS use to report and calculate annual tax payments and refunds. Business owners may receive a Schedule K-1 at the end of the year, which helps them add business income to their personal income tax returns. This form is generated alongside the company’s annual tax return and should come from your tax software or accountant.
The Schedule K-1 form includes details about your business entity’s profits. Partnerships and S corporations are the two types of businesses that result in a Schedule K-1. Trusts and estates may also lead to the need for a Schedule K-1.
What is a pass-through entity?
Businesses in which the business income is reported on the business owner’s personal taxes are called pass-through entities. Those include sole proprietorships, LLCs, and S corporations. When you read about how to run your small business, you may come across the term “pass-through entity.” Pass-through entity is a term for a business where the owner pays taxes for the business through their personal tax return rather than paying directly from the business. Sole proprietorships and Limited Liability Companies (LLCs) are also pass-through businesses but may report taxes using a different IRS form, according to the Tax Policy Center.
Which information is included on a K-1?
A completed Schedule K-1 includes information on the business, on the financial details about the business, and on the Schedule K-1 recipient. While the details vary slightly between Schedule K-1 forms, the information they include is similar.
The forms explain what percentage of the business you own and break down your income or losses from the business. The right side of both forms includes financial data, such as your income or loss from operations, real-estate rental income, royalties, interest, dividends, and other sources of income.
When you do your taxes or hand over information to your accountant, the financial information on Schedule K-1 goes directly to your personal tax return. This allows you, your accountant, or your tax software to calculate your total annual tax liability for the year.
Business entities that may result in a K-1
As mentioned above, some estates and trusts may lead to a Schedule K-1 form. When you own a business, you’ll get a K-1 if you run a partnership or a business taxed as an S corporation.
- Partnership: When you are an owner of a partnership, each owner receives a Schedule K-1 at the end of the year. Partnerships must complete Form 1065. The Schedule K-1 is generated as part of the 1065 tax return process.
- LLC: An LLC is taxed like a sole proprietorship by default. If you fill out a form and opt for an LLC to be taxed as an S corporation, you’ll complete an 1120-S tax return every year, which includes a Schedule K-1 for each owner.
- S corporation: S corp businesses complete an 1120-S tax return annually. Like LLCs that opt for S-corp taxation, Form 1120-S leads to a Schedule K-1 for each owner. If there’s one owner, they get a single Schedule K-1.
Who generates Schedule K-1 Forms?
Schedule K-1 forms are completed as part of the tax return preparation process for qualifying small businesses. You can do this yourself, but many people use tax software or a professional accountant to do their business taxes.
If you use tax software such as TurboTax, H&R Block, or TaxAct to complete a 1065 or an 1120-S tax return, the final package will include the generated Schedule K-1 forms. When you use tax software, you generally need to type information from your accounting and bookkeeping reports into a guided series of online forms. When you’re done, you should have an accurate and complete K-1.
When you hire an accountant to do your taxes, they’ll take care of entering your business data.
How to handle Schedule K-1s as a small-business owner
Your final tax forms should include a paper or a digital version of your Schedule K-1 form for the year. If you have partners, it’s a good idea to make sure everyone receives an appropriate version of the Schedule K-1 so they can do their personal taxes.
If you use tax software for your personal taxes, follow the prompts to enter details from your Schedule K-1 for the appropriate business entity. If you use an accountant, be sure to provide them with copies of your K-1 so that they can prepare your final personal tax return.
In the end, your percentage of business profits or losses will show as a single line on your personal 1040 tax return forms.
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Bottom line on Schedule K-1
If you own a partnership or a business with S-corporation taxation, you should know about Schedule K-1. Even if you don’t do your own taxes, knowing where to find how much you earned from your business for taxes is important. Regardless of how you get your taxes done, you’re responsible for understanding what information is included in the form and that everything is accurate. Schedule K-1 is another required tool to ensure that you put together an accurate tax return.