- A corporation has current E&P of negative $20,000 and accumulated E&P of positive $50,000. It distributes $40,000 to a shareholder. The dividend amount is:
Answer: $30,000 - accumulated E&P ($50,000) reduced by the current year deficit ($20,000) = $30,000 net E&P.
Net available E&P = $50,000 - $20,000 = $30,000. The $40,000 distribution is $30,000 dividend and $10,000 return of capital. Answer A is correct.
- Qualified dividends received by individual taxpayers are taxed at:
Answer: Preferential rates of 0%, 15%, or 20% depending on the taxpayer's taxable income - the same rates as long-term capital gains.
Qualified dividends are taxed at long-term capital gain rates (0%, 15%, or 20%). Answer B is correct.
- A corporation redeems all stock from a shareholder in a complete termination of interest. Under Section 302(b)(3), the tax treatment is:
Answer: Sale or exchange treatment - the shareholder recognizes capital gain or loss equal to the difference between the amount received and the adjusted basis of the redeemed shares.
Complete termination under Section 302(b)(3) qualifies as a sale or exchange - capital gain or loss treatment. Answer C is correct.
- A shareholder receives a distribution from a corporation treated as a return of capital. The effect on the shareholder is:
Answer: The shareholder's basis in the stock is reduced (but not below zero) - when basis reaches zero, further distributions are capital gain.
Return of capital distributions reduce stock basis - once basis reaches zero, excess is capital gain. Answer B is correct.
- A non-liquidating property distribution creates what tax consequences for the distributing corporation?
Answer: The corporation recognizes gain but not loss on distributed property - gain is recognized as if sold at FMV under Section 311(b), but losses are not recognized under Section 311(a).
Section 311 provides asymmetrical treatment: gain on appreciated property is recognized but losses on depreciated property are not. Answer C is correct.
- Following a property distribution, the distributing corporation's E&P is adjusted by:
Answer: For appreciated property, E&P is first increased by the gain recognized under Section 311(b), then reduced by the net FMV of the distributed property (FMV minus liabilities assumed by the shareholder) under Section 312; for property distributed at or below basis, E&P is reduced by the adjusted basis (not FMV).
Under Section 312, the E&P adjustment for a property distribution involves two steps when the property is appreciated: (1) E&P is increased by the gain recognized under Section 311(b) (the corporation recognizes gain as if it sold the property at FMV); then (2) E&P is reduced by the net FMV of the distributed property (FMV minus any liabilities the shareholder assumes). If the property is not appreciated (distributed at or below adjusted basis), E&P is reduced by the adjusted basis rather than FMV. Answer A is correct. Reducing E&P by adjusted basis alone (B) does not capture the net FMV rule for appreciated property. Increasing E&P by the gain recognized (C) is only one step of the two-step adjustment. No adjustment (D) is incorrect.
- A stock dividend distributed by a corporation is generally:
Answer: Tax-free to shareholders when the dividend is pro-rata and does not change proportionate interests in the corporation.
A pro-rata stock dividend is generally tax-free since proportionate interests don't change. Answer C is correct.
- A partial liquidation under Section 302(b)(4) is treated as a sale or exchange. Partial liquidations occur when:
Answer: The corporation distributes proceeds from the termination of a business or a genuine contraction of the corporation's business - limited to non-corporate shareholders.
Partial liquidation requires a genuine contraction of the business and applies only to non-corporate shareholders. Answer B is correct.
- Under Section 302, a stock redemption is treated as a sale or exchange (capital gain/loss) rather than a dividend if:
Answer: The redemption meets one of four tests: substantially disproportionate, complete termination, not essentially equivalent to a dividend, or partial liquidation of a non-corporate shareholder.
Section 302 provides four tests for sale/exchange treatment. Answer D is correct.
- The excess of a distribution over E&P is treated as:
Answer: A return of capital reducing the shareholder's stock basis - if the distribution exceeds basis, the excess is capital gain.
Distributions exceeding E&P first reduce basis (tax-free return of capital), and any amount exceeding basis is capital gain. Answer D is correct.
- A C corporation distributes appreciated property in redemption of a shareholder's stock. For the redeeming corporation, the tax consequences are:
Answer: The corporation recognizes gain as if it had sold the property at FMV - the gain increases E&P, and E&P is then reduced by the net FMV of the property.
Corporations recognize gain on property distributed in redemptions under Section 311(b). Answer A is correct.
- A shareholder receives a corporate distribution of $20,000 when the corporation has no E&P and the shareholder's basis is $15,000. The tax treatment is:
Answer: $15,000 return of capital (reducing basis to zero), and $5,000 capital gain.
Without E&P, the distribution reduces basis ($15,000) and any excess ($5,000) is capital gain. Answer C is correct.
- Which of the following best describes the ordering rule when a corporation has both current and accumulated E&P for purposes of characterizing a distribution?
Answer: Current E&P is allocated to distributions made during the year first, on a pro-rata basis if there are multiple distributions; accumulated E&P applies to any remaining distribution that exceeds current E&P.
Current E&P is allocated pro-rata to distributions during the year; accumulated E&P covers any excess. Answer A is correct. Accumulated E&P is not used first (B). No election exists (C). Equal division (D) is not the rule.
- A liquidating distribution to a 100% subsidiary (Section 332 complete liquidation) results in:
Answer: Tax-free treatment for both the subsidiary and parent - no gain or loss is recognized, and the parent takes a carryover basis in the subsidiary's assets.
Section 332 provides complete nonrecognition for both the parent and subsidiary, with the parent taking carryover basis in assets. Answer B is correct.
- When a corporation redeems stock from a shareholder and the redemption fails to qualify as a sale under Section 302, the amount received is:
Answer: Treated as a dividend to the extent of E&P, then return of capital reducing basis, then capital gain.
A failed redemption is treated as a regular distribution - dividend to the extent of E&P, then return of capital, then capital gain. Answer C is correct.
- A shareholder waives the Section 318 family attribution rules to qualify a complete termination redemption under Section 302(c). To make this waiver effective, the shareholder must:
Answer: File an agreement with the IRS to notify them if they acquire an interest in the corporation within 10 years, retain no interest after the redemption, and have acquired no disqualified interest within the past 10 years.
Section 302(c)(2) allows waiver of family attribution for complete terminations if the shareholder retains no interest, files an agreement notifying the IRS of future acquisitions, and has no disqualified interests. Answer A is correct.
- The 'essentially equivalent to a dividend' test under Section 302(b)(1) - a redemption fails this test (and is treated as a dividend) when:
Answer: The redemption does not meaningfully reduce the shareholder's proportionate interest - a 'meaningful reduction' is required to avoid dividend treatment.
The test fails (treated as dividend) when there is no meaningful reduction in proportionate interest. Answer D is correct.
- The 'substantially disproportionate' test under Section 302(b)(2) requires that after the redemption, the shareholder owns:
Answer: Less than 80% of their pre-redemption ownership percentage AND less than 50% of total combined voting power.
The substantially disproportionate test requires post-redemption ownership of less than 80% of pre-redemption percentage AND less than 50% of total voting power. Answer A is correct.
- A shareholder sells stock back to a corporation in a redemption qualifying as a sale under Section 302. Basis was $25,000; amount received was $40,000. The result is:
Answer: $15,000 capital gain (amount realized $40,000 minus adjusted basis $25,000) - sale/exchange treatment produces capital gain or loss.
A qualifying Section 302 redemption produces capital gain: $40,000 - $25,000 = $15,000. Answer D is correct.
- A corporation distributes property with an FMV of $60,000 and adjusted basis of $40,000 to shareholders. The corporation must:
Answer: Recognize $20,000 of gain as if the property had been sold at FMV - corporations recognize gain (but not loss) on distributions of appreciated property.
Under Section 311(b), corporations recognize gain on appreciated property distributions. The gain is $60,000 - $40,000 = $20,000. Answer D is correct.
