Question

When a corporation distributes money or property to its shareholders, the distribution may be treated as:

I) A dividend, to the extent that the corporation has earnings and profits

II) A loan to the share holders

III) a reduction in stock outstanding

IV) a gain from the sale of stock

Select one
A) I Only

B) II, III, IV

C) II and IV
D) I and IV   

Answer 1

A corporation will not recognize any gain or loss on a distribution of cash to its shareholders. But if the corporation distributes appreciated property, the corporation must recognize gain as if the property were sold to the shareholder at fair market value.To the extent that a distribution is made from the corporation’s earnings and profits, it is taxed to the shareholder as a dividend. The portion of the distribution that is not considered a dividend is applied first to reduce the shareholder’s basis in the corporation’s stock. Any remaining portion is treated as gain from the sale or exchange of property (capital gain).

Therefore, Option D is correct.