Question

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Exit Corporation has accumulated E&P of $24,000 at the beginning of the current tax year. Current...

Exit Corporation has accumulated E&P of $24,000 at the beginning of the current tax year. Current E&P is $20,000. During the year, the corporation makes the following distributions to its sole shareholder who has a $22,000 basis for her stock.

Date	Amount Distributed
April 1	$20,000
June 1	20,000
August 1	15,000
November 1	5,000

The treatment of the $15,000 August 1 distribution would be

Group of answer choices

$5,000 is taxable as a dividend from current E&P, and $10,000 is tax-free as a return of capital.

$15,000 is taxable as a dividend from accumulated E&P.

$4,000 is taxable as a dividend from accumulated E&P, and $11,000 is tax-free as a return of capital.

$15,000 is taxable as a dividend; $5,000 from current E&P and the balance from accumulated E&P.

Expert Solution

Distribution made by the corporation to its shareholders are treated as follows:

Treat as taxable dividend up to the extend of higher of :
- Current Earnings & profits (CEP) or
- Sum of Current Earnings & Profit and Accumulated Earnings and Profit (AEP) before distribution.
Remaining dividend to the extent of shareholder's basis are treated as non taxable return of Capital which reduces the shareholder's basis.
Dividend in excess of E&P and Shareholder's basis are taxable capital gain distribution.

In the given question,

Current Earnings & profits (CEP) = $20,000

Accumulated Earnings and Profit (AEP) = $24,000

Sum of CEP and AEP = $ 20,000 + $24000 = $44,000

Therefore dividend to the extent of $44,000 would be treated as dividend income and any amount above this would be treated as return of capital.

Sum of 1st and 2nd distribution = $20,000 + $20,000 = $40,000 ( which is within the limit of sum of CEP and AEP, hence treated as taxable dividend)

Out of the third dividend of $15,000, amount up to $4,000 would be treated as taxable dividend and remaining $11,000 would be treated as return of capital.

Therefore answer would be :

(c) $4,000 is taxable as a dividend from accumulated E&P, and $11,000 is tax-free as a return of capital.

Kindly Up Vote

ekkarill92 answered 2 years ago

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