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Exam 5: Corporations: Earnings Profits and Dividend Distributions

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Question 21

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If a stock dividend is taxable, the shareholder's basis in the newly received shares is equal to the fair market value of the shares received in the distribution.

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Question 22

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A corporation that distributes a property dividend must reduce its E & P by the adjusted basis of the property less any liability on the property.

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Question 23

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Briefly describe the reason a corporation might distribute a property dividend to a shareholder in lieu of a cash distribution. Describe the tax effects of the property distribution on the shareholder and on the corporation.

Rust Corporation has accumulated E & P of $30,000 on January 1, 2011. In 2011, Rust Corporation had an operating loss of $40,000. It distributed cash of $20,000 to Andre, its sole shareholder, on December 31, 2011. Rust Corporation's balance in its E & P account as of January 1, 2012, is:

On January 1, Tulip Corporation (a calendar year taxpayer) has accumulated E & P of $300,000. Its current E & P for the year is $90,000 (before considering dividend distributions). During the year, Tulip distributes $600,000 ($300,000 each) to its equal shareholders, Anne and Tom. Anne has a basis in her stock of $65,000, while Tom's basis is $120,000. What is the effect of the distribution by Tulip Corporation on Anne and Tom?

Distributions that are not dividends are a return of capital and decrease the shareholder's basis. Once basis is reduced to zero, any excess is taxed as a capital gain.

Tangelo Corporation has an August 31 year-end. Tangelo had $50,000 in accumulated E & P at the beginning of its 2012 fiscal year (September 1, 2011) and during the year, it incurred a $75,000 operating loss. It also distributed $65,000 to its sole shareholder, Cass, on November 30, 2011. If Cass is a calendar year taxpayer, how should she treat the distribution when she files her 2011 income tax return (assuming the return is filed by April 15, 2012) ?

During the year, Blue Corporation distributes land to its sole shareholder. If the fair market value of the land is less than its adjusted basis, Blue will recognize a loss on the distribution.

An increase in the LIFO recapture amount must be added to taxable income to determine E & P.

Any loss in current E & P must be treated as occurring ratably during the year.

When computing current E & P, taxable income is not adjusted for the deferred gain in a § 1031 like-kind exchange.

When computing E & P, an adjustment to taxable income is necessary for any domestic production activities deduction.

Navy Corporation makes a property distribution to its sole shareholder, Troy. The property distributed is a car (fair market value of $10,000; basis of $15,000) that is subject to a $2,000 liability which Troy assumes. Navy makes no other distributions during the current year. Navy has no accumulated E & P and $15,000 of current E & P from other sources during the year. What is Navy's E & P after taking into account the distribution of the car?

Pink Corporation declares a nontaxable dividend payable in rights to subscribe to common stock. Each right entitles the holder to purchase one share of stock for $25. One right is issued for every two shares of stock owned. Jack owns 100 shares of stock in Pink, which he purchased three years ago for $3,000. At the time of the distribution, the value of the stock is $45 per share and the value of the rights is $2 per share. Jack receives 50 rights. He exercises 25 rights and sells the remaining 25 rights three months later for $2.50 per right.

The dividends received deduction is added back to taxable income to determine E & P.

Daisy Corporation is the sole shareholder of Ostrich Corporation, which it hopes to sell within the next three years. The Ostrich stock (basis of $25 million) is currently worth $30 million, but Daisy believes that it would be easier to find a buyer if it was worth less. To lower the value of its stock, Ostrich distributes $4 million cash to Daisy (sufficient E & P exists to cover the distribution). At a later date, Daisy sells Ostrich for $26 million.

Use of MACRS cost recovery when computing taxable income does not require an E & P adjustment.

Stephanie is the sole shareholder and president of Hawk Corporation. She feels that she can justify at least a $220,000 bonus this year because of her performance. However, rather than a bonus in the form of a salary, she plans to have Hawk pay her a $220,000 dividend. Because Stephanie's marginal tax rate is 35%, she prefers to receive a dividend taxed at 15%. Her accountant, however, suggests a $310,000 bonus in lieu of the $220,000 dividend since Hawk Corporation is in the 34% tax bracket. Should Stephanie take the $220,000 dividend or the $310,000 bonus? Support your answer by computing the after-tax cost of the two alternatives to Hawk and to Stephanie.

Dividends paid to shareholders who hold both long and short positions do not qualify for the reduced tax rate available to individuals in certain years.

Which of the following statements regarding constructive dividends is not correct?