Corporate Special Topics

Question 1

A distribution of stock or stock rights is generally considered a taxable dividend unless it is which of the following?

a. Distribution with respect to preferred stock.
b. Distribution of convertible preferred stock.
c. Distribution in lieu of money.
d. Proportionate distribution.

Answer 1

Proportionate distribution.
This answer is correct.
A proportionate distribution of stock or stock rights would not be considered a dividend under Sec. 305(a) and would not be included in the gross income of the distributee.

Question 2

Rachel purchased 100 shares of Comet Corporation stock for $500 in Year 1. In Year 4, Rachel received $5,000 in a distribution from the partial liquidation of Comet Corporation. On her personal Year 4 income tax return, Rachel must report income from this transaction as

Dividends.
None of the answers are correct.
Other.
Capital gains.

Answer 2

Capital gains.
This answer is correct.
Section 302(b)(4) allows noncorporate shareholders who receive redemptions in partial liquidation to treat the distribution as payment for their stock. Any gain on the redemption is eligible for capital gain treatment.

Question 3

With regard to corporate reorganizations, which one of the following statements is true?

Answer 3

Securities in corporations not parties to a reorganization are always boot.
This answer is correct.
A corporation must be a party to a reorganization in order for its property, stock, or securities, to be exchanged tax-free. Securities in corporations not parties to a reorganization are boot.

Question 4

Four years ago, Mr. B sold his personal property on contract for $200,000, which resulted in a capital gain of $100,000. Mr. B properly elected to use the installment method of reporting and through last year had collected $40,000 on the contract. At the start of this year, the buyer defaulted on the contract, and Mr. B repossessed the property. At the time of repossession, the property had a fair market value of $160,000. What is the gain or loss to be reported on the repossession?

Answer 4

80,000 capital gain.
This answer is correct.
Under Sec. 453B(f)(1), a taxpayer recognizes a gain or loss (capital if the asset was capital) on the repossession of property sold on the installment method. The gain or loss is the difference between the fair market value of the repossessed property and basis of the obligations of the purchaser so satisfied.
Fair market value of property
$160,000 
Less:
Balance of contract due
$160,000 
Unrealized profit (50%)
(80,000)
Basis of contract
(80,000)
Capital gain on repossession
$  80,000

Question 5

Shale, a C corporation, made two liquidating distributions of $1,000 on January 9, 2017, and February 13, 2017, to shareholder Patricia. Shale must file Form 1099-DIV, Dividends and Distributions, with the Internal Revenue Service by

Answer 5

February 28, 2018.
This answer is correct.
A corporation making any distribution in complete or partial liquidation must file a Form 1099-DIV in each calendar year of the liquidation for each shareholder to whom it makes a distribution of $600 or more. These forms must be sent to the shareholders by January 31 of the year following the calendar year in which the liquidating distribution is made [Sec. 6042(c)] and filed with the IRS by February 28 [Reg. 1.6043-2(a)].

Question 6

Company A has property in two states that both use the UDITPA formula for apportioning business income.

Location of Property
Acquisition Cost: Beg./End of Year
Rent Expense
State 1
$150,000/$250,000
$0
State 2
$0
$10,000
What are the property factors for Company A in States 1 and 2?

Answer 6

71%
29%

This answer is correct.
The property factor determines the in-state use of real and tangible personal business property. The factor is a fraction with the average value of the taxpayer’s property owned or rented and used in the state during the tax period as the numerator and the average value of all the taxpayer’s property owned or rented and used during the tax period as the denominator. Property rented by the taxpayer is valued at eight times the net annual rental rate [$80,000 ($10,000 × 8)]. The average value of property owned (i.e., average acquisition cost) is $200,000 [($150,000 + $250,000) ÷ 2]. The factors are calculated as follows:
State 1:
IMAGE
= 71%
State 2:
IMAGE

Question 7

Borasco Corp. owns land with a fair market value of $200,000. Borasco purchased the land 10 years ago for $65,000 and owes a liability of $50,000 as of August 2 of the current year. Alvo Corp. owns 100% of Borasco. Borasco is completely liquidated on August 2 of the current year, according to a plan adopted on June 18 of the current year. As a result, the land is transferred to Alvo in complete cancelation of Borasco’s stock. What basis does Alvo have in the land it receives?

Answer 7

$65,000
This answer is correct.
When a subsidiary is liquidated into its parent pursuant to a plan of reorganization, no gain or loss is recognized on distribution of assets. As no gain or loss is recognized, the basis remains the same in the hands of the parent as it was in the subsidiary. Therefore, basis is $65,000.

Question 8

In 2017, Pine Corporation had losses of $20,000 from operations. It received $180,000 in dividends from a 25%-owned domestic corporation. Pine’s taxable income is $160,000 before the dividends-received deduction. What is the amount of Pine’s dividends-received deduction?

Answer 8

A corporate deduction for dividends received from domestic taxable corporations is allowed. Pine Corporation may deduct 80% of dividends received from a domestic corporation in which Pine owned between 20% and 80% of the stock. This dividends-received deduction is limited to 80% of taxable income. Without regard to the limitation, Pine could deduct $144,000 ($180,000 × 80%). Pine, however, is limited to a $128,000 deduction ($160,000 taxable income × 80%). Thus, Pine’s dividends-received deduction is $128,000.

Question 9

Core Corporation reported current earnings and profits of $250,000. Core distributed a building with an adjusted basis to itself of $170,000 and a fair market value of $230,000 to its sole shareholder. The building had a mortgage of $90,000, which the shareholder will assume. What is the amount of the dividend received by the shareholder?

Answer 9

140,000
This answer is correct.
Section 301(b)(1) provides that the distribution to a shareholder is equal to the fair market value of the property distributed. Under Sec. 301(b)(2)(A), this amount must be decreased by any liabilities assumed by the shareholder or to which the property is subject. The distribution to the shareholder is $140,000 ($230,000 FMV – $90,000 liability).
Under Sec. 316, a distribution is a dividend to the extent that it comes from earnings and profits. The earnings and profits would be increased by the gain (net of tax) on the distribution. Gain is recognized to the extent the FMV of the building exceeds the adjusted basis [Sec. 311(b)], or $60,000. In any event, the corporation has at least $250,000 of earnings and profits. Therefore, the entire $140,000 is a dividend.

Question 10

Oak Corporation had earnings and profits of $500,000 before distributions. Due to economic conditions, Oak, in partial liquidation, distributed land having an adjusted basis to itself of $135,000 and a fair market value of $150,000 to Mr. Brown for his 35% interest in Oak Corporation. Mr. Brown’s adjusted basis in the stock at the time of the distribution was $180,000. What is the amount of Oak Corporation’s recognized gain (or loss)?

Answer 10

15,000
This answer is correct.
According to Sec. 311(b), when a corporation distributes appreciated property (FMV exceeds adjusted basis), the gain should be recognized as if a sale has occurred. Therefore, Oak Corporation should recognize a $15,000 gain ($150,000 FMV – $135,000 adjusted basis).

Question 11

During 2017, Corporation T distributed machinery, having a fair market value of $300,000 and an adjusted basis to T of $150,000, to Mr. K in exchange for 85% of K’s interest in T. This distribution was under a plan of partial liquidation that resulted in a contraction of the business. K’s adjusted basis in the stock exchanged with T was $180,000. T had an earnings and profits balance of $500,000 prior to the partial liquidation. What is the character and amount of Mr. K’s recognized gain on the distribution?

Answer 11

120,000 capital gain.
This answer is correct.
Under Sec. 302(b)(4), a redemption of an interest held by a noncorporate shareholder made in partial liquidation of the corporation is treated as a distribution in exchange for the stock. The shareholder will treat any gain on the redemption as a capital gain. The amount of the gain is computed under Sec. 1001. Under Sec. 301(b)(1), the amount of the distribution is the fair market value of the property. Mr. K will recognize a gain of $120,000 on the distribution ($300,000 fair market value of the distributed property – $180,000 basis in the stock). The gain is treated as capital gain.

Question 12

Aztec, a C corporation, distributed an asset to Burn, a shareholder. The asset had a fair market value of $30,000 and was subject to a $40,000 liability assumed by Burn. The asset had an adjusted basis of $25,000. What amount of gain must Aztec recognize?

Answer 12

15,000
This answer is correct.
A corporation must recognize gain realized on distribution of property. Gain realized on distributed property must be recognized by the corporation as if the property were sold to the distributee at its FMV. FMV is presumed to be no less than liabilities related to the property subject to which the shareholder assumes or takes the property. Therefore, the FMV equals the $40,000 liability assumed by Burn, and the recognized gain is $15,000 ($40,000 FMV of the property less $25,000 adjusted basis).

Question 13

Since 2006, Ben has owned all 100 outstanding shares of N and M Corporation’s stock. Ben’s basis for the stock is $50,000. In 2017, N and M have earnings and profits of $100,000. The corporation redeemed 25 shares of Ben’s stock for $75,000 in 2017. How will Ben report this?

Answer 13

75,000 dividend.
This answer is correct.
Because Ben owns 100% of the stock before and after the redemption, the transaction is a dividend to the extent that N and M Corporation has earnings and profits. Because the distribution ($75,000) is less than earnings and profits ($100,000), the entire amount is taxable as a dividend.

Question 14

Elm Corp. is an accrual-basis, calendar-year C corporation with 100,000 shares of voting common stock issued and outstanding as of December 30, Year 1. On December 31, Year 1, Hall surrendered 2,000 shares of Elm stock to Elm in exchange for $33,000 cash. Hall had no direct or indirect interest in Elm after the stock surrender. Additional information follows:

Hall’s adjusted basis in 2,000 shares of Elm
on December 31, Year 1 ($8 per share)
$16,000
Elm’s accumulated earnings and profits at
January 1, Year 1
25,000
Elm’s Year 1 net operating loss
(7,000)
What amount of income did Hall recognize from the stock surrender?

$18,000 capital gain.
$33,000 dividend.
$25,000 dividend.
$17,000 capital gain.

Answer 14

17,000 capital gain.
This answer is correct.
In the case of a stock redemption in complete liquidation of a shareholder’s interest, the redemption is treated as a sale or exchange of a capital asset. Therefore, Hall’s income from the redemption is a $17,000 capital gain ($33,000 – $16,000 basis).

Question 15

Zeb, an individual shareholder, owned 25% of Towne Corporation stock. Pursuant to a series of stock redemptions, Towne redeemed 10% of the shares of stock Zeb owned in exchange for land having a fair market value of $30,000 and an adjusted basis of $10,000. Zeb’s basis for all of his Towne stock was $200,000. Zeb reported the redemption transaction as if it were a dividend. Zeb’s basis in the land and his Towne stock (immediately after the redemption) is

Answer 15

Land, $30,000; stock, $200,000.
This answer is correct.
If a redemption of shares does not qualify as a sale or exchange, it is treated as a dividend. The amount of a dividend distribution is the amount of money received plus the fair market value of the property received. Zeb has a $30,000 dividend. The basis of property received in a distribution is the FMV of such property. Therefore, Zeb’s basis in the land is $30,000. A dividend distribution does not affect the basis in a shareholder’s stock, so Zeb’s stock basis remains $200,000.

Question 16

As an investment, Rambo Corporation owns 10% of the stock of Duntulum Corporation with a basis of $8,000 and a market value of $50,000. Rambo uses the Duntulum stock to redeem approximately 1%, or $10,000 par value, of its own outstanding stock from unrelated, noncorporate shareholders. As a result of this transaction, Rambo must report

Answer 16

42,000 gain.
This answer is correct.
The general rule is that a corporation does not recognize gain or loss on the distribution of property with respect to its stock. But a corporation that distributes appreciated property must recognize gain equal to the excess of the FMV of the property over its adjusted basis, as if the stock were sold to the distributee immediately before the exchange. The recognized gain is $42,000 ($50,000 – $8,000).

Question 17

Which of the following is an unprotected in-state activity?

a. Consigning goods for sale.
b. Recruiting sales personnel
c. Advertisement soliciting orders for sales.
d. Checking customers’ inventories for re-order.

Answer 17

Consigning goods for sale.
This answer is correct.
The “Statement of Information Concerning Practices of Multistate Tax Commission and Signatory States Under Public Law 86-272” lists consigning stock of goods or other tangible personal property for sale as an unprotected in-state activity. Unprotected in-state activities establish nexus. Consigning goods for sale goes beyond solicitation of orders or ancillary activities.

Question 18

John owned a printing business and sold the following assets in Year 2:

Printing press:
Sales price
$25,000
Original cost
20,000
Allowed or allowable depreciation
8,000
Computer equipment:
Sales price
$30,000
Original cost
28,000
Allowed or allowable depreciation
14,000

John had a net Sec. 1231 loss of $6,000 in Year 1. What is the amount and character of John’s gain for Year 2?

Answer 18

28,000 ordinary income; $1,000 capital gain.
This answer is correct.
Section 1231 property is depreciable or real property used in a trade or business and held for more than 1 year or an involuntarily converted nonpersonal capital asset (i.e., held in connection with a trade or business or a transaction entered into for profit) held for more than 1 year. A taxpayer who has a net Sec. 1231 gain (i.e., excess of Sec. 1231 gains over Sec. 1231 losses) for the tax year must review the 5 most recent preceding tax years for possible recapture of net Sec. 1231 losses for such years. If there were any net Sec. 1231 losses during such period, the taxpayer must treat the current year’s net Sec. 1231 gain as ordinary income to the extent of the amount of unrecaptured net Sec. 1231 losses for that past period [Sec. 1231(c)]. The losses are to be recaptured on a first-in, first-out (FIFO) basis. John realizes a total gain of $29,000. Since the assets also qualify as Sec. 1245 property, this Sec. 1231 gain is recharacterized as ordinary income to the extent of depreciation recaptured ($22,000) and to the extent of any unaccounted for Sec. 1231 loss ($6,000). The remaining $1,000 is recognized as a Sec. 1231 gain.

Question 19

Diane, the sole shareholder of Check Corporation’s stock, owns 500 shares, which she purchased in 2006. Diane’s basis in Check’s stock is $20,000. During 2017, Check, which had earnings and profits of $50,000, redeemed 250 shares of Diane’s stock for $12,000. What are the amount and the character of Diane’s gain?

Answer 19

12,000 dividend.
This answer is correct.
If a distribution is not a redemption of all the shareholder’s stock, Sec. 302(b)(2) must be applied to determine whether the distribution will be treated as a payment in exchange for the stock or as a dividend. One of the requirements of Sec. 302(b)(2) is that the shareholder must own less than 50% of the total combined voting power of all classes of stock immediately after the redemption. Alternatively, the distribution must not be essentially equivalent to a dividend under Sec. 302(b)(1). This alternative requires a meaningful reduction in the shareholder’s interest in the distributing corporation.
Since Diane is the sole shareholder, she still owns 100% of the company after redeeming part of her stock. Therefore, the requirements of Secs. 302(b)(2) or 302(b)(1) are not met, and the $12,000 distribution is treated as a dividend since it is less than Check Corporation’s earnings and profits (Sec. 301).

Question 20

T, a calendar-year corporation that began doing business 10 years ago, had $35,000 in accumulated earnings and profits on January 1 of this year. T had an operating loss of $60,000 for the first 6 months of this year but had $10,000 in earnings and profits for the entire year. T made a distribution of $25,000 cash to its shareholders on April 1 this year. What is the amount of T’s accumulated earnings and profits at the close of business on December 31?

Answer 20

20,000
This answer is correct.
Determination must first be made as to whether or not the cash distribution is a dividend. Section 316 defines a dividend as a distribution of earnings and profits. Regulation 1.316-1(a)(1)(ii) states that current E&P is to be computed at the end of the tax year without regard to distributions during the year. At December 31 of this year, T has a current E&P of $10,000 and accumulated E&P of $35,000. The cash distribution comes first from current E&P ($10,000 – $10,000 = $0), with the balance from accumulated E&P, thereby leaving a $20,000 balance ($35,000 – $15,000).

Question 21

Francis Corporation had taxable income of $260,000 for its initial taxable year. A review of company records revealed the following information:

The current-year tax depreciation expense on furniture and fixtures, the only asset owned by Francis Corporation, was $10,000. If Francis had used the alternative depreciation system (straight-line method), depreciation expense deducted would have been $5,000.
Francis had tax-exempt interest income of $22,000 that has not been included in taxable income.
Francis paid dividends of $16,000 that were not deducted.
Francis had $20,000 of returns and allowances that were deducted on the return.
Francis reported a $20,000 gain on an installment sale of a noninventory item. The total gain on the sale was $100,000.
Earnings and profits for Francis Corporation at the close of the current year were

Answer 21

This answer is correct.
In computing earnings and profits of a corporation, all income that is nontaxable or exempt from tax is added to taxable income. The earnings and profits are reduced by any expenditures or expenses of the corporation that are not deductible for tax purposes. Depreciation is usually determined under the alternative depreciation system (straight-line method). If depreciation reported for tax purposes exceeds straight-line depreciation, the difference is added back to taxable income. A corporation that sells property on the installment basis is treated for earnings and profits purposes as if it had not used the installment method. No adjustment is required for returns and allowances since deducting returns and allowances is an acceptable tax accounting procedure for computing taxable income and earnings and profits. The computation of earnings and profits for Francis Corporation in the current year is as follows:
Taxable income
$260,000 
Depreciation ($10,000 – $5,000)
5,000 
Tax-exempt interest income
22,000 
Installment sale gain not reported for
tax purposes ($100,000 – $20,000)
80,000 
Current earnings and profits
$367,000 
Less: Dividends paid out of current
earnings and profits
(16,000)
Earnings and profits balance
$351,000

Question 22

Orson Corp. had an E&P deficit of $160,000 at December 31, 2016. Its net income per books was $80,000 for 2017. Cash dividends on common stock totaling $40,000 were paid in December 2017. Orson should report the distribution to its shareholders as

Answer 22

Ordinary dividends 100%.
This answer is correct.
A corporate distribution is a dividend and is included in the recipient’s income to the extent it comes from accumulated or current E&P. A distribution is considered made from the most recently accumulated E&P. Orson’s distribution comes entirely from the $80,000 in current E&P even though there is a deficit in accumulated E&P. Note that E&P are not the same as net income; however, if there is $80,000 of net income, there will likely be sufficient E&P for the dividend. The distribution is, therefore, entirely ordinary dividend income to the shareholders.

Question 23

Hotel Management Consulting (HMC) is a corporation chartered in state X, which has adopted the Uniform Division of Income for Tax Purposes Act (UDITPA) and does business in another state, Y, that has also adopted the act. HMC owns an office building in state Y, with 3,000 square feet of space, valued at $500,000. The total square footage of all offices for the firm is 1,200,000 square feet nation-wide valued at $200,000,000. HMC has 5 employees in state Y with an annual payroll of $450,000 and another 100 employees outside state Y. The total annual payroll for all employees is $50,000,000. The consulting income in state Y totals $4,000,000 and total income from all sources is $700,000,000. State Y used the formula specified in UDITPA, not the gross receipts factor. What is the apportionment percentage to be applied to Hotel Management Consulting for taxing income in state Y?

a. 1.861%
b. 1.940%
c. 0.574%

Answer 23

0.574%
This answer is correct.
The apportionment of income to a taxing state under UDITPA. The formula is
IMAGE
The property factor = $500,000 ÷ $200,000,000 = 0.250%

The payroll factor = $450,000 ÷ $50,000,000 = 0.900%

The sales factor = $4,000,000 ÷ $700,000,000 = 0.5714%

Therefore, the apportionment percentage for taxing HMC’s income in state Y is 0.574% [(0.250% + 0.900% + 0.5714%) ÷ 3].

Question 24

During 2017, Ambassador Matinee Company distributed a dividend in the form of land to its sole shareholder. The land has a fair market value of $50,000 and an adjusted basis of $10,000. Assuming that the corporation has sufficient earnings and profits and ignoring the potential tax effect of any taxes on the distribution, the net effect of the transaction on earnings and profits (E&P) is

a. None of the answers are correct.
b. An increase of $40,000.
c. An increase of $10,000.
d. A decrease of $10,000.

Answer 24

A decrease of $10,000.
This answer is correct.
When appreciated property is distributed, the corporation recognizes a gain equal to the excess of the FMV of the property over the adjusted basis. The E&P are increased by the recognized gain ($40,000) and decreased by the FMV of the property distributed ($50,000). Therefore, the net effect of the distribution is a decrease of $10,000.

Question 25

Corporations X, Y, and Z are component members of a controlled group of corporations on December 31 of the current year. For the current year, they allocate the taxable income brackets under an apportionment plan as follows:

Corporation X
1/4 of each tax bracket
Corporation Y
1/2 of each tax bracket
Corporation Z
1/4 of each tax bracket
Corporation Y has taxable income of $80,000 for the current year. What is Corporation Y’s income tax liability if the controlled group’s total taxable income is $97,000?

Answer 25

21,325
This answer is correct.
Under Sec. 1561(a)(1), component members of a controlled group of corporations are limited to using the taxable income brackets in Sec. 11 as if they were one corporation. Unless the members agree otherwise, the tax brackets are allocated equally. Under the apportionment plan, Y is entitled to 50% of each tax bracket. Y’s income tax is

Tax Brackets
50%
Tax

1st $50,000
$25,000
 × 15%
$  3,750
Next $25,000
12,500
 × 25%
3,125
Remainder
42,500
 × 34%
14,450

Total

$21,325

Note that, although each tax bracket is allocated in the same manner here, different allocations are permitted. Since the total taxable income of the controlled group is less than $100,000, no recapture of the tax savings resulting from the 15% and 25% marginal tax brackets occurs. The additional 5% tax will not apply unless the total taxable income of the controlled group exceeds $100,000. The allocation selected by the group is less than optimal since the full amount of the 15% and 25% tax bracket benefits are not used when taxable income is $97,000. The group should consider revising its allocation for the current year.