Fed Tax II - Chapter 4: Corporate Nonliquidating Distributions
Identify which of the following increases Earnings & Profits. A. tax-exempt interest income B. life insurance proceeds payable to the spouse C. a capital contribution D. All of the above increase E&P of a corporation.
A
Crossroads Corporation distributes $60,000 to its sole shareholder Harley. Crossroads has earnings and profits of $55,000 and Harley's basis in her stock is $20,000. After the distribution, Harley's basis is A. $5,000. B. $60,000. C. $15,000. D. $20,000.
C
Current E&P does not include A. tax-exempt interest income. B. life insurance proceeds where the corporation is the beneficiary. C. federal income tax refunds from prior years. D. All of the above are included.
D
A stock redemption is always treated as if the shareholder sold his stock to the corporation. True False
False
Corporate distributions that exceed earnings and profits are always capital gains. True False
False
Corporations may always use retained earnings as a substitute for earnings and profits. True False
False
What effect do the following transactions have on the calculation of Young Corporation's current E&P? Assume that the starting point for the calculation is Young's taxable income for the current year. The corporation earns tax-exempt interest income of $10,000. A. The tax-exempt interest is added to taxable income to compute current E&P. B. Tax-exempt interest has no effect on the current E&P. C. The tax-exempt interest is deducted from taxable income to compute current E&P. D. None of the above.
A
Wills Corporation, which has accumulated a current E&P totaling $70,000, distributes land to its sole shareholder, an individual. The land has an FMV of $75,000 and an adjusted basis of $60,000. The shareholder assumes a $15,000 liability associated with the land. The transaction will have the following tax consequences. A. The corporation will recognize a $15,000 gain; the shareholder will recognize dividend income of $60,000. B. The corporation will recognize no gain; the shareholder will recognize dividend income of $60,000. C. The corporation will recognize no gain; the shareholder will recognize dividend income of $75,000. D. The corporation will recognize a $15,000 gain; the shareholder will recognize dividend income of $75,000.
A
What effect do the following transactions have on the calculation of Young Corporation's current E&P? Assume that the starting point for the calculation is Young's taxable income for the current year. The corporation took a U.S. production activities deduction of $3,000. A. The U.S. production activities deduction is only allowable if the corporation suffered losses in the current year. B. The U.S. production activities deduction is added to taxable income. C. The U.S. production activities deduction is deducted from taxable income. D. The U.S. production activities deduction is actually a tax credit.
B
What is a stock redemption? A. A stock redemption is the transfer by a corporation of its own stock to another stockholder. B. A stock redemption is the acquisition by a corporation of its own stock for consideration. C. A stock redemption is the acquisition by a corporation of its own stock for liquidation. D. A stock redepmtion is the acquisition by a stockholder of another stockholder's holdings for liquidation.
B
Which of the following is not a condition that permits a stock redemption to be treated as a sale? A. The redemption is substantially disproportionate. B. It provides funds for payment of income taxes. C. It is not essentially equivalent to a dividend. D. The redemption completely terminates the shareholder's interest.
B
Which of the following is not a reason for a stock redemption? A. No outside market exists for the stock. B. desire by shareholders to reduce the corporate tax liability C. Redemption of shares is a good corporate investment. D. desire by remaining shareholders to retain control
B
An individual shareholder owns 3,000 shares of Baxter Corporation common stock with a basis of $10 per share. She receives a nontaxable 5% stock dividend. The basis per share of the common stock after the stock dividend is A. $10.00. B. $9.50. C. $9.52. D. $9.00.
C
Dixie Corporation distributes $31,000 to its sole shareholder, Sally. At the time of the distribution, Dixie's E&P is $25,000 and Sally's basis in her Dixie stock is $10,000. Sally's basis in her Dixie stock after the distribution is A. $31,000. B. $25,000. C. $4,000. D. $10,000.
C
Explain how a corporation computes its current E&P balances. A. A corporation computes current E&P on an annual basis by making adjustments to taxable income so that the resulting amount represents the corporation's economic ability to pay dividends out of retained earnings. B. A corporation computes current E&P on an annual basis by making adjustments to taxable income so that the resulting amount represents the corporation's economic ability to pay dividends out of the prior year's earnings. C. A corporation computes current E&P on an annual basis by making adjustments to taxable income so that the resulting amount represents the corporation's economic ability to pay dividends out of the current year's earnings. D. A corporation computes accumulated E&P on an annual basis by making adjustments to taxable income so that the resulting amount represents the corporation's economic ability to pay dividends out of the current year's earnings.
C
Good Times Corporation has a $60,000 accumulated E&P balance at the beginning of the year and incurs a $100,000 deficit during the year. Because of its poor operating performance, Good Times pays only three of its usual $10,000 quarterly dividend payments to its sole shareholder: those ordinarily paid March 31, June 30, and September 30. How are the March 31, June 30, and September 30 payments of $10,000 treated? A. return of capital; dividend; dividend B. return of capital; return of capital; dividend C. dividend; return of capital; return of capital D. dividend; dividend; return of capital
C
Identify which of the following statements is true. A. The distributing corporation's E&P must be reduced by the FMV of nontaxable stock rights distributed to shareholders. B. A shareholder can redeem part of his stock and recognize a capital gain if the corporation has only one shareholder. C. A stock redemption can be used to withdraw some assets from a corporation prior to a sale of the business. D. All of the above are false.
C
Identify which of the following statements is true. A. The shareholder's basis in property received in a nonliquidating distribution is the property's FMV reduced by liabilities assumed by the shareholder. B. A corporation recognizes gain when distributing money as a dividend to its shareholders. C. If both the current and accumulated E&P have deficit balances, a corporate distribution cannot be characterized as a dividend. D. All of the above are false.
C
Pecan Corporation distributes land to a noncorporate shareholder. Explain how the following items are determined: The holding period for the land begins A. on January 1 of the year the distribution was made. B. when the shareholder takes physical possession of the property. C. on the day after the distribution date. D. on the day of the distribution.
C
Tomika Corporation has current and accumulated earnings and profits of $0. Tomika distributes $10,000 to its sole shareholder, Alana. What are Tomika's earnings and profits after the distribution? A. ($10,000) B. $10,000 C. $0 D. none of the above
C
What effect do the following transactions have on the calculation of Young Corporation's current E&P? Assume that the starting point for the calculation is Young's taxable income for the current year. Taxable income includes a $10,000 dividend and is reduced by a $7,000 dividends-received deduction. A. The dividends-received deduction reduces capital gains. B. The dividends-received deduction reduces taxable income. C. The dividends-received deduction is added to taxable income. D. None of the above.
C
What is not a reason for redeeming stock? (Select all that apply.) A. A shareholder may be required to sell stock to the corporation under the terms of a stock purchase agreement with the issuing corporation. B. A shareholder may want to withdraw from the corporate business and sell his or her equity interest. C. A shareholder may have debt owed to the corporation and the stock redemption would cancel the debt. D. After the death of a major shareholder, a corporation may be forced to redeem a certain percentage of the decedent's stock from either the estate or a beneficiary to provide sufficient funds to pay estate and inheritance taxes and funeral and administrative expenses.
C
Describe the effect of a $ 100,000 cash distribution paid on January 1 to the sole shareholder of a calendar year corporation whose stock basis is $ 25 ,000 when the corporation has $ 100 ,000 of current E&P and $ 100 ,000 of accumulated E&P. A.The distribution is a $ 100,000 dividend payable out of current E&P. B. The dividend is a $ 100,000 dividend payable out of accumulated E&P. C. First, $ 25,000 is a return of capital that reduces the shareholder's stock basis to zero. The remaining $75,000 is a capital gain. D. First, $ 25,000 is a return of capital that reduces the shareholder's stock basis to zero. The remaining $ 75,000 is ordinary income.
A
Pecan Corporation distributes land to a noncorporate shareholder. Explain how the following items are determined: How would your answers change if the distribution were made to a corporate shareholder? A. The answers would not change if they were made to a corporate shareholder because Sec. 301(c) applies the same dividend rules to each type of shareholder. However, a corporation shareholder may be eligible for the dividends-received deduction. B. The amount of the distribution would be different. The amount would be the cost. Any liability assumed or acquired by the shareholder in connection with the distribution will reduce the property's basis. C. The holding period for the land would be different. The holding period for the land would begin when the shareholder takes physical possession of the property. D. The shareholder's basis in the land would be different. The shareholder's basis in the land would be its FMV. Any liability assumed or acquired by the shareholder in connection with the distribution will reduce the property's basis.
A
Pecan Corporation distributes land to a noncorporate shareholder. Explain how the following items are determined: The amount of the distribution is A. its FMV. The distribution amount is the FMV of all property received. If the shareholder assumes or acquires a liability in connection with the distribution, it reduces the amount of the distribution (but not below zero). B. the basis of all property received. If the shareholder assumes or acquires a liability in connection with the distribution, it reduces the amount of the distribution (but not below zero). C. its FMV. The distribution amount is the FMV of all property received. If the shareholder assumes or acquires a liability in connection with the distribution, it does not reduce the amount of the distribution. D. the basis of all property received. If the shareholder assumes or acquires a liability in connection with the distribution, it may reduce the amount of the distribution to zero or below.
A
Pecan Corporation distributes land to a noncorporate shareholder. Explain how the following items are determined: The shareholder's basis in the land is its A. FMV. The basis of any property received is its FMV. Any liability assumed or acquired by the shareholder in connection with the distribution does not reduce the property's basis. B. FMV. The basis of most property received is its FMV. Any liability assumed or acquired by the shareholder in connection with the distribution will reduce the property's basis. C. cost. The basis of any property received is its cost. Any liability assumed or acquired by the shareholder in connection with the distribution does not reduce the property's basis. D. cost. Any liability assumed or acquired by the shareholder in connection with the distribution will reduce the property's basis.
A
What effect do the following transactions have on the calculation of Young Corporation's current E&P? Assume that the starting point for the calculation is Young's taxable income for the current year. The corporation accrued federal income taxes of $25,280. A. The federal income taxes are deducted from taxable income. B. Only 20% of the federal income taxes are deducted from taxable income. C. The federal income taxes are deducted from accumulated E&P. D. The federal income taxes increase taxable income.
A
Badger Corporation was incorporated in the current year. It reports an $8,000 NOL on its initial tax return. Badger distributed $2,500 to its shareholders. Is it possible for this distribution to be taxed as a dividend to Badger's shareholders? Explain. A. No. The taxable loss must first be adjusted to include accumulated E&P. The adjustment needs to be at least $8,000 to avoid a taxable loss but would still be deemed a return of capital. B. Yes. The taxable loss must first be adjusted to compute current E&P which would need to be at least $2,500 for this to be considered to be a dividend. C. No. The taxable loss of $8,000 exceeds the distribution amount of $2,500, so the distribution would be a return of capital. D. Yes. The taxable loss must first be adjusted to compute current E&P which would need to be at least $10,500 for this to be considered to be a dividend.
B
Corporation owns a building with a $ 120,000 adjusted basis and a $ 160,000 FMV . Walnut's E&P is $ 200,000. Should the corporation sell the building and distribute the sales proceeds to its shareholders or distribute the property to its shareholders and let them sell it? Why? A. The corporation should distribute the property to its shareholders and report a $ 40,000 loss ($ 120,000 basis - $ 160,000 FMV) and then let the shareholders sell the property. This allows the corporation to reduce its E&P and resulting taxable income and income tax liability for the year. If the corporation sells the building to a third party, the loss cannot be recognized when determining taxable income by either the corporation or its shareholders because the shareholders assume Walnut's basis in the property. B. Same tax result either way. From a tax perspective, it makes no difference whether the property is distributed first and then sold or sold first and the proceeds distributed to the shareholder. Either way, the corporation must recognize a $ 40,000 gain ($ 160,000 FMV - $ 120,000 basis) on the disposition/distribution of the building, and the shareholders have a $ 160,000 dividend. The shareholder's basis in the building is $ 160,000 C. Same tax result either way. From a tax perspective, it makes no difference whether the property is distributed first and then sold or sold first and the proceeds distributed to the shareholder. Either way, the corporation must recognize a $ 40,000 loss ($ 120,000 basis - $ 160,000 FMV) on the disposition/distribution of the building, and the shareholders have a $ 120,000 dividend. The shareholder's basis in the building is $ 120,000 D. The corporation should sell the building to a third party and report a $ 40,000 loss ($ 120,000 basis - $ 160,000) and then distribute the proceeds to its shareholders. If the corporation distributes the property to the shareholders first, the loss cannot be recognized when determining taxable income by either the corporation or its shareholders because the shareholders take a FMV basis in the property. If the property is distributed, the $ 120,000 adjusted basis of the building reduces the distributing corporation's E&P and therefore the taxability of future distributions.
B
Describe the four types of attribution rules that apply to redemptions. A. (1) Family attribution, (2) corporate attribution, (3) attribution to entities, and (4) sibling attribution. B. (1) Family attribution, (2) attribution from entities, (3) attribution to entities, and (4) option attribution. C. (1) Parental attribution, (2) corporate attribution, (3) spousal attribution, and (4) sibling attribution. D. (1) Parental attribution, (2) attribution from entities, (3) spousal attribution, and (4) sibling attribution.
B
Explain the purpose of the attribution rules in determining stock ownership in a redemption. A. To ensure families do not try to take over another family member's business by selling stock out from under the family. B. To prevent shareholders from either taking advantage of favorable tax rules or avoiding unfavorable tax rules by deeming family members or related entities to own stock that the shareholder may not own. C. To allow shareholders a preferential treatment on the sale of stock when the majority of the corporation is owned by one family. It is important to keep the corporation within that families control. D. None of the above.
B
Hickory Corporation owns a building with a $160,000 adjusted basis and a $ 120,000 FMV . Hickory's E&P is $200,000. Should the corporation sell the building and distribute the sales proceeds to its shareholders or distribute the property to its shareholders and let them sell it? Why? A. The corporation should distribute the property to its shareholders and report a $40,000 loss ($120,000 FMV - $160,000 basis) and then let the shareholders sell the property. This allows the corporation to reduce its E&P and resulting taxable income and income tax liability for the year. If the corporation sells the building to a third party, the loss cannot be recognized when determining taxable income by either the corporation or its shareholders because the shareholders assume Hickory's basis in the property. B. The corporation should sell the building to a third party and report a $40,000 loss ($120,000 FMV - $160,000 basis) and then distribute the proceeds to its shareholders. If the corporation distributes the property to the shareholders first, the loss cannot be recognized when determining taxable income by either the corporation or its shareholders because the shareholders take a FMV basis in the property. If the property is distributed, the $160,000 adjusted basis of the building reduces the distributing corporation's E&P and therefore the taxability of future distributions. C. The same tax result occurs either way. From a tax perspective, it makes no difference whether the property is distributed first and then sold or sold first and the proceeds distributed to the shareholder. Either way, the corporation must recognize a $40,000 gain ($160,000 FMV - $120,000 basis) on the disposition/distribution of the building, and the shareholders have a $160,000 dividend. The shareholder's basis in the building is $160,000 D. The same tax result occurs either way. From a tax perspective, it makes no difference whether the property is distributed first and then sold or sold first and the proceeds distributed to the shareholder. Either way, the corporation must recognize a $40,000 loss ($120,000 FMV - $160,000 basis) on the disposition/distribution of the building, and the shareholders have a $120,000 dividend. The shareholder's basis in the building is $120,000 .
B
Identify which of the following statements is false. A. The distribution of stock rights is generally tax free under Sec. 305. B. The distribution of stock rights will be taxable if the value of the stock rights is more than 15% of the value of the underlying stock. C. The holding period for stock rights includes the holding period for the underlying stock. D. If the value of stock rights is less than 15% of the value of the underlying stock, the basis of the rights is zero unless the shareholder elects to allocate basis to the rights.
B
Identify which of the following statements is true. A. A 10% shareholder of a corporation is considered to own 10% of any stock that is owned by the corporation under the Sec. 318 attribution rules. B. Generally in a stock redemption, if the shareholder's ownership percentage is substantially reduced, the redemption is treated as a sale. C. The family attribution rules of Sec. 318 are as inclusive as the family attribution rules of Sec. 267. D. All of the above are false.
B
Identify which of the following statements is true. A. When making a nonliquidating distribution, the corporation's E&P is reduced by the property's FMV even though the property's basis is greater than its FMV. B. The holding period for property received by a shareholder in a nonliquidating distribution begins on the day after the distribution. C. When making a nonliquidating distribution, a corporation recognizes gains and losses. D. All of the above are false.
B
What effect do the following transactions have on the calculation of Young Corporation's current E&P? Assume that the starting point for the calculation is Young's taxable income for the current year. A $5,000 capital loss carryover from the preceding tax year offsets $5,000 of capital gains. A. The capital loss carryover reduces taxable income. B. The capital loss carryover is added to taxable income. C. The capital loss carryover has no effect on the E&P. D. None of the above.
B
Why are stock dividends generally nontaxable? Under what circumstances are stock dividends taxable? A. Stock dividends are generally nontaxable to preferred stockholders since they can elect to receive the stock dividend in other property instead. However, stock dividends are taxable to common stockholders when they are also given the option to elect to receive the stock dividend in other property instead. B. Stock dividends are nontaxable because they do not add to the property the shareholder already owns, however they are taxable whenever a stock dividend changes or has the potential to change the shareholder's proportionate interest in the distributing corporation. C. Stock dividends are nontaxable because cash is not exchanging hands, just ownership. However stock dividends are taxable when a corporation requires the holding period of the dividend to be a set amount of time. This is considered tax avoidance. D. Stock dividends are nontaxable when a shareholder's proportionate interest changes or has the potential to change, however they are taxable whenever a stock dividend does not change the shareholder's proportionate interest in the distributing corporation.
B
Wills Corporation, which has accumulated a current E&P totaling $65,000, distributes land to its sole shareholder, an individual. The land has an FMV of $75,000 and an adjusted basis of $55,000. The shareholder assumes a $15,000 liability associated with the land. The shareholder will recognize A. $60,000 of dividend income and have a $60,000 basis in the land. B. $60,000 of dividend income and have a $75,000 basis in the land. C. $65,000 of dividend income and have a $75,000 basis in the land. D. $65,000 of dividend income and have a $65,000 basis in the land.
B
Why are some redemptions treated as sales and others as dividends? A. Some redemptions that substantially change the shareholder's proportionate interest closely resemble a dividend and are treated as dividend income, while others that do not produce such a change are esentially equivalent to a sale are taxed as a capital gain. B. If the redemption provides funds for an estate to pay death taxes, it is considered a dividend. The redemption is considered a sale when the redemption is a partial termination of the shareholder's interest. C. Some redemptions that substantially change the shareholder's proportionate interest closely resemble a sale of stock to a third party and are treated as a sale or exchange, while others that do not produce such a change are esentially equivalent to a dividend and are taxed as a dividend. D. If the redemption provides funds for an estate to pay death taxes, it is considered a sale. The redemption is considered a dividend when the redemption is a partial termination of the shareholder's interest.
C
Does the timing of a distribution matter as to whether it is taxed as a dividend or treated as a return of capital? Explain. A. Yes. If the corporation has a current E&P deficit and positive accumulated E&P, then the amount of current E&P deficit accrued on the distribution date reduces the accumulated E&P, so the remainder is all that's allowed as a dividend. B. Yes. If the corporation makes more than one distribution during the year, and there is insufficient E&P for all distributions to be treated as dividends, then the current E&P is allocated ratable to all distributions, but the accumulated E&P is allocated on a FIFO basis to each distribution. C. No. If the corporation makes multiple distributions, and the corporation's total E&P does not cover the full distribution, dividend treatment will be disallowed. D. Both A and B.
D
Explain how a corporation computes its accumulated E&P balances. A. A corporation computes accumulated E&P on an annual basis by making adjustments to taxable income so that the resulting amount represents the corporation's economic ability to pay dividends out of the current year's earnings. B. Accumulated E&P is the E&P balance for the previous years reduced by the sum of all previous current E&P deficits. C. Accumulated E&P is E&P balance for all previous years reduced by any distributions that have been made out of retained earnings. D. Accumulated E&P is the sum of the current E&P (less distributions made out of current E&P) balances for all previous years reduced by the sum of (1) all previous current E&P deficits and (2) any distributions that have been made out of accumulated E&P.
D
For purposes of determining current E&P, which of the following items cannot be deducted in the year incurred? A. life insurance premiums (in excess of the increase in cash surrender value for the policy) paid on the lives of key employees B. charitable contribution in excess of the 10% limitation C. capital losses in excess of capital gains D. dividends-received deduction
D
Hogg Corporation distributes $30,000 to its sole shareholder, Ima. At the time of the distribution, Hogg's E&P is $14,000 and Ima's basis in her stock is $10,000. Ima's gain from this transaction is a A. $14,000 capital gain. B. $30,000 capital gain. C. $20,000 capital gain. D. $6,000 capital gain.
D
Pecan Corporation distributes land to a noncorporate shareholder. Explain how the following items are determined: The amount of the dividend is A. a dividend to the extent it is paid out of the accumulated E&P of the corporation. B. a dividend to the extent it is paid out of current retained earnings. C. a dividend to the extent it is paid out of the current E&P of the corporation. D. a dividend to the extent it is paid out of the current and accumulated E&P of the corporation.
D
What is a constructive dividend? Under what circumstances is the IRS likely to argue that a constructive dividend has been paid? A. A way for corporations to allow lease payments to be paid out in dividend income even if the corporation is in a taxable loss. The IRS will argue constructive dividends when there are excessive lease payments made to an employee. B. A way the IRS can ensure closely held corporations pay employees a fair wage by making wages public knowledge if they feel shareholder-employees are leading excessive lifestyles. The IRS argues a constructive dividend when comparing industry standards from one employee base to another. C. A manner in which the IRS or courts will characterize an excessive dividend payout from corporations. The IRS will disallow the dividend when there is a taxable loss for the corporation in the current year. D. A manner in which the IRS or the courts might characterize an excessive corporate payment to a shareholder to reflect the true economic benefit conferred upon the shareholder. The IRS argues constructive dividends when they feel excessive compensation is paid to a shareholder-employee.
D
Which of the following transactions does not have the potential of creating a constructive dividend? A. purchase of corporate property by the shareholder B. compensation paid by a corporation to a shareholder-employee C. shareholder's rental of corporate property D. All of the above can result in a constructive dividend.
D
Why is it necessary to distinguish between current and accumulated E and P ? A. Distributions are deemed to come first out of current E&P and then out of accumulated E&P. However if the distribution is for the sole intent of avoiding tax, the distribution is disallowed and the full amount that would have been paid out is deemed a capital gain, and required to be taxed at the corporate level. B. Distributions can come out of accumulated E&P or current E&P first. The order does not matter, but once a method has been chosen, the corporation must stay with that method. However, if the distribution exceeds the total E&P, the remainder will be dividends. C. Distributions are deemed to come first out of accumulated E&P and then out of current E&P, so if accumulated E&P does not cover the full distribution, the remaining is taken from current E&P. However, if current E&P is still insufficient to cover the remaining distribution, the distributions are treated as a return of capital and reduce the shareholder's stock basis. D. Distributions are deemed to come first out of current E&P and then out of accumulated E&P, so if current E&P is positive, any distributions will be dividends to the extent of current E&P. However if E&P is insufficient to cover all distributions, distributions are deemed to come pro rata out of current E&P and then in chronological order out of accumulated E&P.
D
In a taxable distribution of stock, the recipient shareholder takes a basis equal to the FMV of the stock received. True False
True
