Distributions from a corporation

Question 1

Additions to taxable income - exempt income or deductions (+)

Answer 1

1. municipal interest and life insurance proceeds are added back to taxable income
2. The dividends-received deduction is added back to taxable income in computing E&P.
3. Deductions claimed for carryovers from previous years (carryforwards) are added back to taxable income.
4. Proceeds from corporate life insurance policy (less cash surrender value)

Question 2

Nondeductible expenditures - reduce taxable income to compute E&P (-)

Answer 2

1. The amount of federal income tax (net of credits) reduces taxable income in computing E&P
2. Related party losses
3. Penalties, fines, lobbying expenses, life insurance premiums for a “key” man, entertainment expenses, and the disallowed portion of business meals.

Question 3

Modifications to taxable income - timing differences; can be (+) or (-)

Answer 3

a. The deferred portion of a gain from a current installment sale (but not other deferrals) is also added to taxable income because it represents an economic inflow. (+)
When the gain is recognized in later years, it reduces taxable income because it has already been included in E&P in the year of the sale. (-)

b. The amount of depreciation deducted in excess of straight-line (+)

c. The amount deducted under Section 179 for regular tax must be deducted ratably over five years for computing E&P. (-)
Bonus depreciation is not allowed for computing E&P.

d. Net capital loss and the excess amount of charitable contributions

Question 4

Distributions generally reduce E&P

Answer 4

1. Cash distributions reduce E&P. (-)
2. Distributions of property reduce E&P by the greater of the value of the property or the adjusted basis and this amount is then reduced by any liabilities that are assumed by the shareholder. (-)
3. A distribution of appreciated property will first increase E&P by the amount of the gain recognized on the distribution. (-)
4. Distributions cannot create a deficit in E&P—only losses can create a deficit.

Question 5

Dividend distributions are:

Answer 5

Taxable as dividend income to extent of the shareholder’s pro-rata share of E&P;
Excess is tax-free to extent of shareholder’s basis in stock (and reduces the basis);
Remaining distribution amount is taxed as a capital gain;

Question 6

If both current and accumulated E&P are negative,

Answer 6

then distributions are a return of capital (tax-free up to adjusted basis—and then capital gain).

Question 7

If both current and accumulated E&P are positive,

Answer 7

then the distribution is taxed as a dividend. Distributions are first taken from current E&P by allocating E&P to each distribution, based on the amount of the distributions. If there is only one distribution during the year, then all of the current E&P is allocated to that distribution. Once current E&P is depleted, then distributions reduce accumulated E&P.

Question 8

If current E&P is positive but accumulated E&P is negative,

Answer 8

then a distribution is a dividend only to the extent of the current E&P.

Question 9

If accumulated E&P is positive but current E&P is negative,

Answer 9

then a distribution is a dividend to the extent of net E&P (accumulated E&P less an allocated portion of the deficit in current E&P) on the date of the distribution.

Question 10

Property distributions

Answer 10

1. The value of the property distributed (net of any debt assumed by the shareholder) is the amount eligible for dividend treatment.
2. The distribution of appreciated property causes the corporation to recognize gains (not losses) like a sale of the property.
3. If the liability on the property exceeds the property’s fair market value, the FMV is treated as being equal to the liability.
4. Amount distributed = FMV − Liabilities on property
5. Basis of the property to the shareholder is the fair market value.
6. Constructive dividends are also treated as distributions.

Question 11

constructive dividend

Answer 11

A payment to a shareholder that, although not formally declared as a dividend, is regarded as a dividend. Property distributions to shareholders will often be treated as a constructive dividend.

Question 12

If the non-recourse liability attached to property exceeds the property’s fair market value,

Answer 12

the fair market value is deemed to be equal to the amount of the liability

Question 13

When the corporation distributes appreciated property,

Answer 13

it must recognize gain equal to the liability over the property’s basis.

Question 14

Corporate distributions

Answer 14

Corporate distributions to shareholders are taxed to shareholders as dividend income to the extent that the distribution does not exceed current and accumulated earnings and profits. Distributions in excess of current and accumulated earnings and profits are treated as returns of capital. The distribution of appreciated property increases a corporation’s earnings and profits increase by the amount of the difference between the distributed property’s fair market value and the corporation’s adjusted basis in the distributed property.

Question 15

dividend income

Answer 15

must be reported for the distribution to the extent of current and accumulated earnings and profits