Question

Grant Corporation (C Corp) has two shareholders:  Hugh (owns 50%) and Bullocks Corporation (50%).  Grant Corporation makes $75,000 cash distribution to each shareholder on December 31, 2019.   Hugh is an individual but Bullocks Corporation is a C Corporation.  Hugh’s stock basis is $20,000 and Bullocks’ stock basis is $40,000.  What are the tax consequences to Hugh and Bullocks on the distributions for each of the separate situations?

a.  Current E&P is positive $40,000 and Accumulated E&P is negative $15,000.

b.  Current E&P is negative $17,000 and Accumulated E&P is positive $27,000

Answer 1

A) First things first - Any distribution in excess of (current + accumulated) E&P shall not be considered as dividends for tax purposes

B) If the current E&P is is +ve and Accumulated E&P is -ve then - "to the extent of current E&P" amount are considered "dividends" (refer 1.316 - 2 of tresury regulation)

C) If the current E&P is is -ve and Accumulated E&P is +ve then - "the amounts are netted as on date of distribution and if the net is <= 0 then it is not considered as dividends and considered return on capital and if net is >0 then the amount to the extent of such positive amount is considered "dividends" (refer 1.316 - 2 of tresury regulation)

Now question a - consequence to Hugh   - reading A and B above together we get below -

The total current + accumulated is +25,000 and distributed 75,000. Hence 25000 is taxable dividend and the excess of 50,000(75000-25000) is not taxable dividend.

Now question b  - reading A and C together we get below -

The total current + accumulated is +10,000 and distributed 75,000 hence 10,000 is taxable dividend and (75,000 - 10,000) the excess of 65,000 is not taxable dividend. Further as per C above net is positive +10,000. Hence this 10,000 is considered taxable dividends.