ABC Corporation has current E&P of -$200,000. E&P at the beginning of the year w
ID: 2458770 • Letter: A
Question
ABC Corporation has current E&P of -$200,000. E&P at the beginning of the year was -$100,000. ABC Corp. makes a distribution of $350,000 to its sole shareholder on the least day of the year. The shareholder had a tax basis of $50,000. Determine the following (make sure that you show all calculations): How much of the distribution is treated like a dividend to the shareholder? After the distribution takes place, what is the shareholder's tax basis in the ABC Corp. stock after the distribution? What is the balance in E&P for ABC Corp. the day after the distribution? I think that because E&P is negative for both current and accumulated that none of the distribution would be treated as a dividend and therefore is not taxable in the hands of the shareholder. Can anyone tell me what the shareholder's tax basis in the ABC Corp. stock is after the distribution and what the balance in E&P for ABC Corp. is the day after distribution? I am having trouble understanding this concept when the distribution is not taxable to the shareholder. Thanks so much!
Explanation / Answer
If the corporation has a current E&P deficit and an accumulated E&P deficit, none of the distributions are treated as dividends. All distributions are treated as a return of capital until the shareholders stock basis is reduced to zero. Any additional amounts are treated a capital gain.
In case of ABC Corp, since the distribution of 350000 is considered to be neither from Current E & P nor Accumulated E & P, but instead as return on capital, which will be tax free to the shareholder to the extent of the adjusted tax basis i-e 50000. Return on capital distributions in excess of tax basis i-e 300000 (350000-50000) will be treated as capital gains.
Balance in accumulated E & P of ABC corp will be NIL after day of distribution.
Since Shareholder tax basis is 50000, will be considered as tax free return of capital . Excess received will be treated as capital gain.