LLM Corporate Tax Instructor: Dwight Drake C Corp Distribution Lingo 1. Dividend – Corp...

LLM Corporate Tax Instructor: Dwight Drake

C Corp Distribution Lingo

1. Dividend – Corp distributes cash or property to shareholders as a result of operations – not part of redemption of stock or liquidation. Distribution is “with respect to stock” and qualifies as dividend under 316.

2. Return of Capital - Corp distributes cash or property with respect to its stock which is not 316 dividend, nor part of redemption or liquidation.

3. Stock dividend – Corp distributes its own stock or debt obligation to its shareholders as a result of operations – not associated with a redemption or liquidation.

4. Redemption – Corp distributes money or property to shareholder to purchase (or redeem) stock owned by the shareholder.

5. Liquidation – Corp distributes money or property to shareholder as part of plan to liquidate or partially liquidate the business of the corporation.


316 “Dividend” Definition

Distribution is treated as dividend if:

1. Out of earnings and profits accumulated since 2/28/1913

2. Out of its earnings and profits for the current year, determined at end of year and without regard to E & P amount at time of distribution.

Priority rules:

- Every distribution deemed made from E & P to the extent thereof. Corp can’t designate otherwise.

- Distributions deemed made from the most recent E & P.


The 301 Triple Tax Priority

Distribution Amount: Amount of money plus fair market value of property distributed.

Triple Priority: Distribution with respect to stock:

Priority One: If dividend under 316, included in gross income.

Priority Two: If not dividend, applied to reduce adjusted basis of stock. Tax free return of capital.

Priority Three: If exceeds basis, excess treated as gain from the sale or exchange of property.


Determining E & P

Concept: The true economic growth and improvement of the corporation. No precise definition.

Calculation: Start with taxable income, then: Increase for other economic gains: Tax exempt interest, life insurance

proceeds, tax refunds, etc. (but not nonrecognition gains under 1033, 351, etc.)

Increase for deductions that have no economic effect: Dividends received

deduction, excess percentage depletion, etc. Decrease for economic losses not reflected in taxable income: federal

taxes, losses between related parties, excess T & E expenses

Timing differences: Depreciation, 453 installment sales; FIFO inventory, etc.


Problem 169

Taxable Income Calculation: Income items: Gross profit from sales 20,000 Dividends 5,000 LTCG 2,500 Total 27,500 Deductions Salaries 10,250 Dividend deduction (243) 3,500 Depreciation 2,800 LTCL (To extent of LTCG) 2,500 Total 19,050Taxable Income 8,450


Problem 169 Current Earnings and Profits Calculation: Taxable Income 8,450 Add Items: Tax-exempt interest 3,000 Dividend deduction 3,500 Excess Depreciation 1,800 (STL, half yr. convention) Total Increases 8,300 Subtract Items: Excess LTGL (current only) 2,500 Est. fed taxes 800 Total Decreases (3,300) Current E & P 13,450


PelicanCorp.

Problem 173 (a)

Ann

(a) Year 1: What tax effect? - 5k dividend for current E&P per 316 and 301. - 10k return of capital - 2.5k treated as gain on sale of stock per 301. May be LTCG. A stock basis reduced to 0. P Corp’s E&P is 0.

10k Stock Basis5k Current E&PZero Accumulated E&P

17.5k Distribution


PelicanCorp.

Problem 173 (b)

Ann

(b) Year 2:

- A has 10k dividend per 316(a)(2).

- P Corp’s accumulated deficit E&P remains at 15k.

- P Corp’s current E&P reduced to 0 per 312(a)(1).

10k Stock Basis10k Current E&P-15k Accumulated E&P

10k Distribution


PelicanCorp.

Problem 173 (c)

Ann

(c) Year 2: - Current E&P allocated pro rata to all distributions in year. Accumulated E&P allocated on first come-first serve basis. Thus…

- April 1 10k distribution to A: 2k from current E&P and 8k from accumulated. Current reduced to 2k, accumulated reduced to 2k (10k-8k).

- October 1 10k distribution to A & B: 2k for current (1k each) and 2k from accumulated (1k each). Each have return of capital of 3k (5k-2k).

P Corp E&P reduced to 0.

½ Stock for 15k on July 1

4k Current E&P 10k Accumulated E&P

10k on 4/1, 5k on 10/1 10k Stock Basis

BakerCorp

5k on 10/1


PelicanCorp.

Problem 173 (d)

Ann

(d) Current E&P deficit allocated pro rata during year to reduce accumulated E&P. Accumulated E&P allocated on first come-first serve basis. Thus…

- April 1 10k distribution to A: 2.5 k from current deficit (1/4 year), so accumulated E&P down to 7.5k. Dividend 7.5k, return of capital 2.5k.

- October 1 10k distribution to A & B: No E&P left, so all return of capital.

- B’s basis reduced from 15k to 10k. - A’s 10k basis reduced to 7.5k by 4/1 distribution and to 2.5k by 10/1

distribution. Sale of half stock to B creates 13,750 gain (15k less 1.25k basis).

½ Stock for 15k on July 1

4k Current E&P -10k Accumulated E&P

10k on 4/1, 5k on 10/1 10k Stock Basis

BakerCorp

5k on 10/1


Problem 173 (c) & (d) ClarificationIssue: What is A’s basis in stock on sale of ½ to B on 7/1?Two Possibilities: Determine at end of year or at time of sale.If end of year determination: (c) Basis would be: (10k – 3k return of capital on 10/1) / 2 = 3.5k. Gain

on sale would be 15k less 3.5k = 11.5k. Basis in A’s remaining shares 3.5k.

(d) Basis would be: (10k – 2.5 return on 4/1 – 5k return 10/1) / 2 = 1.25k. Gain on sale would be 13.75k. Basis in A’s remaining shares would be 1.25k.

If time of sale determination: (c) Basis would be: 10k / 2 = 5k. Gain on sale 10k. Basis in remaining

share would be 5k less 3k = 2k. (d) Basis would be: (10k – 2.5k return on 4/1) / 2 = 3.75k. Gain on sale

would be 11.25k (15k less 3.75k). Basis in A’s remaining shares would be 3.75 before 10/1 5k distribution, which would take basis to zero and trigger 1.25 gain to A.

Which approach correct? ??, but most think end of year.


S Corp Distributions - 1368

No C corp E&P

First - Tax free to extent of shareholder’s basis in stock. Reduce basis per 1367.

Second - Excess treated as gain from the sale of stock.

Yes C corp E&P

First - Tax free reduction of basis to extent of AAA (accumulated adjustment account).

Second - Taxable dividend to extent of accumulated E &P.

Third - Tax free reduction in basis to extent of remaining basis in stock.

Fourth – Excess treated as gain from the sale of stock.


Problems P. 712 – 1(a)

(a) Reporting of income, loss items

Nonseparately computed income Income 92k 1245 gain 7k Salary (44k) Depreciation (8k) Property taxes (7k) Supplies (4k) Income 36k

A report 24k (2/3) of computed income.

B report 12k (1/3) of computed income.

SCorp

A B200 Shrs 12k Basis 100 Shrs 6k Basis



A BSeparately stated items: Tax-exempt interest 667 333 Margin interest 4,000 2,000 1231 Gain 8,000 4,000 STCG (At&T) 5,000 2,500 Net LTCG 4,000 2,000 Bad debt recovery 3,000 1,500

SCorp



Problems P. 712 – 1(b)

(b) Basis calculation: A B

Beginning basis 12,000 6,000Separately stated items: Tax-exempt interest 667 333 Margin interest (4,000) (2,000) 1231 Gain 8,000 4,000 STCG (At&T) 5,000 2,500 Net LTCG 4,000 2,000 Bad debt recovery 3,000 1,500Net income share 24,000 12,000Non-deductible bribe (4,000) (2,000)

Year-end basis 48,667. 24,333

SCorp



Problems P. 712 – 1(c),(d),(e)

(c) Whose accounting period controls timing of recognition? S Corp’s control.

(d) If 1033 election opportunity to defer gain, who must make? S Corp. Entity level elections required.

(e) Any difference if equipment would have been capital asset if held by A? 1366 (b) provides character of item determined as if such item realized directly from the source realized by corporation. Hence, generally will result in entity level characterization.

SCorp




(a) A Corp distributes 5k to D and 10k to M on 10/15.

D: 3k of ordinary income; 1k LTCG. Basis adjusted up 4k to 7k. Basis adjustment required before characterizing distribution. 5k reduces basis to 2k.

M: 6k ordinary income; 2k LTCG. Basis pre-distribution up to 13k; after 10k distribution down to 3k.

SCorpD M

1/3 Shrs 3k Basis 2/3 Shrs 5k Basis9k operating income3k LTGC

5k on 10/1 10k on 10/1



(b) S Corp distributes 8k to D, 16k to M.

D: Pre-distribution 7k basis reduced to zero. 1k gain on sale of stock.

M: Pre-distribution 13k basis reduced to zero; 3k gain on sale.

SCorpD M


8k on 10/1 16k on 10/1


Problems P. 716 – 1(c)

(c) A Corp redeems all D’s stock for 20k on 12/31. Basis still 7k. 13k gain recognized on sale.

SCorpD M


20k for shrs on 12/31


Problems P. 716 – 1(d)

(d) On 10/15, redeem ¼ D stock for 5k, ¼ M stock for 10k. Considered dividend because pro rata. Same answer as (a).

SCorpD M


5k for ¼ shrs on 10/15 10k for ¼ shrs on 10/15


Problems P. 716 – 1(e)

(e) Land to D – 8k FMV, 9k basis. Land to M – 16k FMV, 13k basis.

D: No loss to corp; 1k of 3k gain on land to M increase pre-distribution basis to 8k; land distribution reduce basis by FMV (8k) to zero. D basis in land 8k.

M: Corp has 3k gain, 2k allocated to M. Pre-distribution basis is 15k. Land distribution 16k; 1k treated as gain on stock sale. M basis in land is 16k.

SCorpD M


8k land with 9k basis 16k land with 13k basis


Problems P. 716 – 1(f)

(f) 12% notes distributed by A Corp, 8k FMV to D, 16K FMV to M. No corp gain under 311(b)(1)(A).

D – 7k pre-distribution basis; zero basis post-distribution; 1k gain as if property sale; basis in note 8k.

M – 13k pre-distribution basis; zero basis post-distribution; 3k gain as if property sale; basis in note 16k.

SCorpD M


8k 5-yr S Corp Note 16k 5-yr S Corp Note



(a) Distributes 5k to each of O and N on 11/15.

- Basis of each increased 3k plus 2k, or 5k. O basis pre-distribution increased to 10k, then down to 5k post-distribution.

- N pre-distribution basis increased to 6k, then reduced to 1k post-distribution.

- P Corp accumulated adjustment account increased 10k for earnings (6k plus 4k) and then reduced 10k for distributions. Hence, zero.

ConvertedS CorpN M

1/2 Shrs 1k Basis 1/2 Shrs 5k Basis6k E&P from C years6k Oper. Income, 4k LTGC

5k on 11/1 5k on 11/1



(a) 10k distribution to each.

O – First 5k current accum. adj account; Dividend of 3k for accumulated E&P; 2k reduction in basis. Basis reduced to 3k.

N – 5k accum adj. account; Dividend of 3k accumulated E&P; 1k basis recovery; 1k gain as if stock sale. Stock basis 0.

Corp – accum adj account and E&P both zero.

ConvertedS CorpN M

1/2 Shrs 1k Basis 1/2 Shrs 5k Basis6k E&P from C years6k Oper. Income, 4k LTGC

10k on 11/1 10k on 11/1


Problems P. 716 – 2(c)

(c) P Corp received 4k tax exempt interest and distributes 7k to each.

N – Basis in stock increased to 8k (1k plus 5k plus 2k). 5k is distribution of accum. adjustment account (which not increased for tax-exempt interest); 2k extra distribution dividend of C corp earnings. N stock basis 3k.

O – Basis in stock increased to 12k (5k plus 5k plus 2k). 5k is distribution of accum. adjustment account (which not increased for tax-exempt interest); 2k extra distribution dividend of C corp earnings. N stock basis 7k.

ConvertedS CorpN M

1/2 Shrs 1k Basis 1/2 Shrs 5k Basis6k E&P from C years6k Oper. Income, 4k LTGC,4k Tax exempt interest

7k on 11/1 7k on 11/1


Problem 716-2(d), (e) (d) N sells stock to R for 6k on 1/1 next year. 10k accumulated E&P. No earnings next year. Corp distributes 6k to R in 2/15. 5k basis recovery from accum adj. account picked up as N’s transferee. 1k dividend from C corp E&P.

(e) No distribution current year. 1/1 next year revoke S election. 5k E&P next year and 7k distribution to each shareholder on 8/1 next year.

- Per 1371(e)(1) distributions of former S corp during “post-termination transition period” (1 yr after last S day) may be treated as basis recovery from accum. Adj. account. So, here 5k to each can be basis recovery (because that each share of 10k accum. Adjust. Acount from prior year) and 2k dividend.

- Per 1371(e)(2), may elect to treat all as dividend. C corp E&P 11k (6k prior and 5k current), do dividend 5.5k to each if election made. Extra 1.5k treated as return of capital.

LLM Corporate Tax Instructor: Dwight Drake C Corp Distribution Lingo 1. Dividend – Corp...

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Transcript of LLM Corporate Tax Instructor: Dwight Drake C Corp Distribution Lingo 1. Dividend – Corp...