Question

Lark Corp. distributes land with a fair market value of $80,000 and an adjusted basis of $55,000, to its shareholder, Hal. The land is subject to a liability of $34,000. Assume that Lark has sufficient Earnings and Profits that any distribution to Hal will be taxable as a dividend to him.

Required: Answer the following questions. a. How much dividend income will Hal have to report on his tax return for the current year? What will be Hal's basis in the land? b. What effect, if any, will the distribution have on Lark's taxable income? c. What effect(s) will the distribution have on Lark's E & P?

Answer 1

a) The dividend income to be declared by HAL in his tax return is $80000 because the actual benefit that Mr Hal receives is $80000 as this is the fair market value i.e $80000 will be realized if the same is sold in the market.

Hal`s basis in the land is $46000 i.e net benefit is $46000($80000-$34000).

b) Taxable income of $59000 is increased in Lark corp.Journal entry of the same will be

Mr Hal ac Dr $80000

To Dividend payable ac cr $80000

(Being Dividend payable share holder Mr Hal)

Dividend payable ac Dr $80000

To Land ac cr $55000

To Profit & Loss ac $25000

(Being Gain on Dividend paid)

Liability on Land ac Dr $34000

To Profit & Loss ac cr $34000

(Being Liability on land cleared)

c) The E&P of Lark corp will be increased by $59000 and the explanation for the same is given in (b) .