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Exam 5: Corporations: Earnings Profits and Dividend Distributions

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Question 31

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Jacqueline owns stock in Dove Corporation (basis of $40,000) as an investment.Dove distributes property (fair market value of $150,000;basis of $75,000) to her during the year.Dove has current E & P of $10,000 and accumulated E & P of $40,000 and makes no other distributions during the year.What is Jacqueline's capital gain on the distribution?

A) $0.
B) $40,000.
C) $60,000.
D) $75,000.
E) None of the above.

F) A) and B)
G) D) and E)

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Question 32

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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?

A) $2,000.
B) $3,000.
C) $5,000.
D) $7,000.
E) None of the above.

F) A) and B)
G) A) and C)

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Question 33

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On January 2,2010,Orange Corporation purchased equipment for $300,000 with an ADS recovery period of 10 years and a MACRS useful life of 7 years.Section 179 was not elected.MACRS depreciation properly claimed on the asset,including depreciation in the year of sale,totaled $79,605.The equipment was sold on July 1,2011,for $290,000.As a result of the sale,the adjustment to taxable income needed to arrive at current E & P is:

Under no circumstances can a distribution generate (or add to)a deficit in E & P.

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

Federal income tax paid in the current year must be added back to taxable income to determine E & P.

Gold Corporation,a calendar year cash basis taxpayer,made estimated tax payments of $400 each quarter in 2010,for a total of $1,600.Gold filed its 2010 tax return in 2011 and the return showed a tax liability $2,100.At the time of filing,March 15,2011,Gold paid an additional $500 in Federal income taxes.How does the additional payment of $500 impact Gold's E & P?

Blue Corporation distributes property to its sole shareholder,Zeke.The property has a fair market value of $450,000,an adjusted basis of $305,000,and is subject to a liability of $250,000.Current E & P is $550,000.With respect to the distribution,Blue has a gain of:

Coral 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.John owns 100 shares of stock in Coral,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.John receives 50 rights.He exercises 25 rights and sells the remaining 25 rights three months later for $2.50 per right.

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.She believes this is preferable because it will be taxed at only 15% (her marginal rate is 39.6%).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.

Silver Corporation has accumulated E & P of $1,000,000 as of January 1 of the current year.During the year,it expects to have earnings from operations of $840,000 and to make a cash distribution of $450,000.Silver Corporation also expects to sell an asset for a loss of $1,000,000.Thus,it anticipates incurring a deficit of $160,000 for the year.What can Silver do to minimize the amount of dividend income to its shareholders?

When computing current E & P,taxable income is not adjusted for the deferred gain in a § 1033 involuntary conversion.

Jose receives a nontaxable distribution of stock rights during the year from Gold Corporation on January 30.Each right entitles the holder to purchase one share of stock for $50.One right is issued for every share of stock owned.Jose owns 100 shares of stock purchased two years ago for $5,000.At the date of distribution,the rights are worth $1,000 (100 rights at $10 per right) and Jose's stock in Gold is worth $6,000 (or $60 per share) .On December 1,Jose sells all stock rights for $13 per right.How much gain does Jose recognize on the sale?

The tax treatment of corporate distributions at the shareholder level does not depend on:

When a corporation makes an installment sale,for E & P purposes the realized gain is recognized as payments are received.

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

The amount of dividend income recognized by a shareholder from a property distribution is always reduced by the amount of liabilities assumed by the shareholder.

A constructive dividend must satisfy the legal requirements of a dividend as set forth by applicable state law.

Distributions by a corporation to its shareholders are presumed to be a return of capital unless the parties can prove otherwise.

Of the § 179 expense deducted in the current year,80% must be added to this year's taxable income to determine current E & P.