What is included in a shareholder's basis in S corporation stock?

The concept of a shareholder's basis in S corporation stock is fundamental to understanding how income, losses, and distributions affect a shareholder's investment in the corporation. The correct answer emphasizes the inclusion of tax-exempt income over losses in determining a shareholder's basis.

In an S corporation, the basis in stock reflects the investment made by the shareholder. This basis is adjusted annually based on various transactions during the year. Tax-exempt income increases a shareholder's basis because it represents a form of economic benefit received without being subject to taxation. On the other hand, losses decrease the basis as they reflect a reduction in the shareholder's investment value due to business performance. Therefore, when the question specifies "tax-exempt income over losses," it highlights how both components are relevant for calculating the overall stock basis.

Understanding the basis is crucial because it affects how shareholders report income and losses on their personal tax returns. A higher basis could lead to favorable tax outcomes when selling stock or receiving distributions, as the taxable gain or deductible loss is calculated based on the basis amount.

The other options do not reflect a complete understanding of how shareholder basis is determined. Guaranteed payments are specific to partnerships and do not apply to S corporation stock. Nonseparately computed income refers to the overall