Question

On January 1, Tulip Corporation (a calendar year taxpayer) has accumulated E & P of $400,000. Its current E & P for the year is $120,000 (before considering dividend distributions). On the last day of the year, Tulip distributes $600,000 ($150,000 each) to its four equal shareholders, Anne, Andrew, Tom and Terry. Anne has a basis in her stock of $65,000, while Andrew’s basis is $120,000. Tom has a $5,000 basis in his stick while Terry has a $80,000 basis.

           What is the effect of the distribution (i.e. how much dividend income does each have? What is their basis in Tulip Corp stock after receiving the distribution? Are their any other consequences to any of the shareholders beyond dividend and return of capital treatment? If so, how much?)

           Anne?

           Andrew?

           Tom?

           Terry?

Answer 1

If current year E&P is not sufficient to cover the amounts distributed during the year. the distribution is considered to come first from current year E&P and then from accumulated E&P. Even when the corporation has a deficit balance in accumulated E&.P. distributions are considered to have been made first from current year E&P. Any distribution in excess of current E&P would, then be treated as a return of capital and would be tax-free to the shareholder to the extent of the shareholder's basis in the stock. Any excess would be treated as a capital gain

1) Each will have dividend up to the total balance of accumulated E&P (520000)

Dividend for each of the 4 people =

= 520000/4

=$130000

2) Capital Basis after Cash Distribution

Note; Tom Capital Basis is in excess of his capital basis (20000-5000)= 15000) so he will have capital Gain of $ 15000.