Accumulated Adjustments Account (AAA)
Authority: IRC §1368(e); Treas. Reg. §1.1368-2
The accumulated adjustments account is a corporate-level ledger an S corporation maintains to track the cumulative income that has already been taxed to shareholders but not yet distributed. It increases with taxable income and decreases with losses and distributions. AAA matters most for S corporations that were once C corporations and still carry old earnings and profits (E&P): distributions come first from AAA tax-free (to the extent of stock basis), and only after AAA is exhausted do they dip into E&P and become taxable dividends. For an S corporation that has never been a C corporation and has no inherited E&P, AAA is bookkeeping rather than destiny, since distributions are governed by stock basis alone. Unlike stock basis, AAA can go negative from losses (though not from distributions), and it is reported on Schedule M-2 of Form 1120-S.
Example
An S corporation with $80,000 of AAA and $30,000 of old C corporation E&P distributes $100,000. The first $80,000 is a tax-free AAA distribution (assuming basis); the next $20,000 is a taxable dividend from E&P.
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