## Facts

- Jane Selfe started a retail clothing business in 1977 and obtained a $120,000 line of credit from a bank, secured by a pledge of Avondale Mills stock owned by her and family members.
- The business was incorporated shortly after; the shareholders elected Subchapter S status.
- At the bank’s request, most advances initially made to Selfe personally were converted into loans to the corporation; Selfe guaranteed the corporation’s indebtedness, and the pledged stock remained collateral.
- The corporation later granted the bank a security interest in corporate receivables, inventory, and contract rights in connection with loan renewals.
- The business incurred losses each year through 1980; the corporation made its loan payments and did not default.
- For 1979 and 1980, the Selfes claimed pass-through S-corporation loss deductions that exceeded what the IRS believed Selfe could support with her adjusted basis.
- The IRS disallowed part of the claimed losses, asserting Selfe’s basis did not include the amount of the bank debt she guaranteed; Selfe paid the deficiency and sued for a refund.
- The district court granted summary judgment for the United States; the Selfes appealed.

## Issues

1. Whether an S-corporation shareholder who guarantees and secures corporate bank debt may increase stock (or debt) basis for loss deductions when, in substance, the lender looked primarily to the shareholder for repayment.
2. Whether summary judgment was proper given disputed facts about the true obligor and economic substance of the financing arrangement.

## Decision

- The Eleventh Circuit reversed the district court’s grant of summary judgment to the government and remanded.
- The court held that, under appropriate circumstances, a shareholder’s guarantee of S-corporation debt may be treated as if the shareholder borrowed the funds and then advanced them to the corporation, increasing the shareholder’s basis.
- The court concluded that material fact disputes existed about whether the bank, in substance, primarily relied on Selfe rather than the corporation, making summary judgment improper.

## Legal Principles

- S-corporation loss deductions are limited to the shareholder’s adjusted basis in stock plus the adjusted basis of any corporate indebtedness to the shareholder (as governed by the then-applicable loss-limitation provision).
- A mere guarantee of corporate debt typically does not increase shareholder basis; courts generally require an “economic outlay.”
- Substance-over-form principles may permit recharacterizing a corporate loan as a loan to the shareholder followed by an advance to the corporation when the lender’s real expectation of repayment rests with the shareholder (often associated with thin capitalization and strong shareholder collateral/credit support).
- Whether a guarantee creates basis is a fact-intensive inquiry; where the record supports competing inferences about the lender’s primary reliance, the issue is not suitable for summary judgment.

## Conclusion

The Eleventh Circuit held that an S-corporation shareholder’s guarantee can increase basis only if the transaction is, in substance, equivalent to a direct loan to the shareholder and a subsequent advance to the corporation, and it remanded for factual findings on whether the bank primarily looked to Selfe for repayment.


Selfe v. United States, 778 F.2d 769 (11th Cir. 1985)