Question

# 11. On January 1, Tulip Corporation (a calendar year taxpayer) has accumulated E & P of...

11. On January 1, Tulip Corporation (a calendar year taxpayer) has accumulated E & P of \$300,000. Its current E & P for the year is \$90,000 (before considering dividend distributions). During the year, Tulip distributes \$600,000 (\$300,000 each) to its equal shareholders, Anne and Tom. Anne has a basis in her stock of \$65,000, and Tom’s basis is \$120,000. What is the effect of the distribution by Tulip Corporation on Anne and Tom?

Step 1

The question is based on the concept of finding effect of dividend distribution on tax basis on the promoters. The distribution will have dual impact ; on dividend and stock basis.

Step 2

As per the given data in question, Anne and Tom is promoters of Tulip corporation.

Dividend income for both shareholders = [Accumulated E&P + current E&P] ÷2= (\$300,000+\$90,000) ÷2=\$195,000.

Excess Distribution of \$300,000-\$90,000= \$210,000 reduces the stock basis in Tulip treated as capital gain.

For Anne = [(\$210,000 excess of E&P ÷2) –\$65,000 basis]= stock basis to zero and capital gain of \$40,000

For Tom =Stock basis to \$15,000 = [\$120,000 basis – (\$210,000 excess of E&P ÷2)]

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