Assumptions: The stock of ChadCo is owned equally by two shareholders: SecondCo (a corporation) and Arnold (an individual). ChadCo and SecondCo use the accrual method, Arnold uses the cash method. All use a calendar taxable year. Assume § 1059 does not apply. Use a 34 percent corporate tax rate in this problem. During the current year, ChadCo accrued income and expenses as follows:
Gross income from business $500,000
Dividends on AT&T stock (consider § 243) 100,000
Interest on municipal bonds (§ 103) 100,000
Capital gain 100,000
Total $800,000
Deductible § 162(a)(l) business expenses $430,000
Noncapital expenses not deductible under § 162(e) 90,000
Capital losses (see § 1211(a)) 146,000
Total $666,000
Net $134,000
(1) On December 24 of the preceding year, SecondCo and Arnold incorporated ChadCo and capitalized ChadCo with cash of $100,000 each. On December 31 of that preceding year, SecondCo and Arnold received distributions from ChadCo of $5,000 each; ChadCo did not earn any income for that year. In addition, SecondCo and Arnold received distributions of $5,000 each, in the current year.
Which distributions should be gross income to SecondCo and Arnold, in what amounts, and why? What does E&P have to do with this?
(2) Alternative: Arnold just bought the ChadCo shares on December 30 of the current year from another shareholder for FMV of $145,000, before the declaration and payment of a $5,000 distribution to Arnold on December 31 of the current year.
Should the distribution be taxable income to Arnold? Why?
(3) Now assume that SecondCo’s basis in its ChadCo stock is $100,000 and Arnold’s basis in his ChadCo stock is $40,000. On January 2 of the current taxable year, ChadCo distributes $100,000 in cash to SecondCo and $100,000 in cash to Arnold. As of the end of the preceding taxable year, ChadCo’s accumulated E&P was zero.
What are the tax consequences of this distribution to ChadCo, SecondCo, and Arnold? [Hint: First compute ChadCo’s current-year taxable income and then compute current-year E&P before reducing the E&P for the distribution (“interim E&P”); after reducing for the distribution, compute final accumulated E&P.
TAX502 –FederalIncomeTaxAspectsofOrganizing and Operating CorporationsCourse Syllabus
(4)Variation:AssumeArnold’sshares were ownedbyadifferentshareholdereveryquarterand$50,000 was distributedratablytoallshareholders quarterly?
Howmuch dividendwouldSecondCoandtheholdersof Arnold’ssharesreceive?
(5)Supposeunderthebasicfactsin (3)abovethatChadCohadanaccumulateddeficitof$100,000 inits E&Paccountas ofDecember31 ofthe precedingtaxable year.
(6)If,onDecember1 ofthe currentyear(the declarationdate),ChadCo’s boardofdirectors votedtopaythe $200,000 distributionbymailingthe checks onDecember31 ofthecurrenttaxableyear(thepaymentdate,theidentification of which isapracticegenerallyusedonlybywidelyheldcorporations)toshareholders ofrecordonDecemberl5 ofthecurrenttaxable year(the recorddate),suchchecks actually beingreceivedby SecondCoandArnoldin themailon January 2of thenextyear?AssumethatSecondCoandArnoldare the publicandthattheyare the onlyshareholders (as inthe basicfacts).
Howwouldyouranswerto (3) abovechange?
(7)SupposethatSecondCoisan individualandthatChadCohasalwaysbeen an Scorporation.
Whatis ChadCo’s E&P‘?Howiseachshareholder’s personalincome taxreturnaffectedforthecurrentyearbythetaxitemsofChadCo?HowwillChadCodistributionof$100,000 toeachshareholderinthe currentyearaffectshareholders?
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