Corporate Taxation Flashcards
Ames and Roth form Homerun, a C corporation. Ames contributes several autographed baseballs to Homerun. Ames purchased the baseballs for $500, and they have a total fair market value of $1,000. Roth contributes several autographed baseball bats to Homerun. Roth purchased the bats for $5,000, and they have a fair market value of $7,000. What is Homerun’s basis in the contributed bats and balls?
- $0
- $5,500
- $6,000
- $8,000
$5,500
When property is contributed to a corporation in exchange for stock, the corporation takes the same basis in the property that the shareholder had, increased by any gain recognized by the shareholder. Ames had a cost basis in the balls of $500 and Roth had a basis of $5,000 in the bats, so the total basis for Homerun is $5,500.
The sole shareholder of an S corporation contributed equipment with a fair market value of $20,000 and a basis of $6,000 subject to $12,000 liability. What amount is the gain, if any, that the shareholder must recognize?
- $0
- $6,000
- $8,000
- $12,000
$6,000
On a corporate formation, gain is recognized to the extent that the liabilities assumed by the corporation exceed the basis in the assets contributed by the shareholder. The gain for this shareholder is $6,000 ($12,000 debt less $6,000 basis).
Liabilities assumed are generally not boot, however there is an exception for when the liability assumed is greater than the basis in the assets.
Feld, the sole stockholder of Maki Corp., paid $50,000 for Maki’s stock in 2007. In 2015, Feld contributed a parcel of land to Maki but was not given any additional stock for this contribution.
Feld’s basis for the land was $10,000, and its fair market value was $18,000 on the date of the transfer of title.
What is Feld’s adjusted basis for the Maki stock?
- $50,000
- $52,000
- $60,000
- $68,000
$60,000
A shareholder’s initial basis in the stock of a corporation is the amount the shareholder paid for the stock.
Thus, Feld’s initial basis in the Maki Corp.’s stock is $50,000, the amount that Feld paid for the stock. Contributions of property to corporations results in the contributing shareholder’s basis for the corporation’s stock to increase by the amount of the shareholder’s adjusted basis in the property. Thus, Feld’s basis in the Maki Corp.’s stock increased by $10,000 due to Feld’s property contribution.
Hence, Feld’s adjusted basis for the Maki Corp. stock is $60,000, the sum of his initial $50,000 basis and the $10,000 adjusted basis of the contributed property.
Jones incorporated a sole proprietorship by exchanging all the proprietorship’s assets for the stock of Nu Co., a new corporation. To qualify for tax-free incorporation, Jones must be in control of Nu immediately after the exchange.
What percentage of Nu’s stock must Jones own to qualify as “control” for this purpose?
- 50.00%
- 51.00%
- 66.67%
- 80.00%
80.00%
Immediately after the exchange, Jones must control at least 80 percent of the corporation’s voting stock and 80 percent of all the other classes of stock issued by the corporation for the incorporation to be tax-free.
In 2015, Stone, a cash basis taxpayer, incorporated her CPA practice. No liabilities were transferred. The following assets were transferred to the corporation:
- Cash (checking account) $500
- Computer equipment Adjusted basis $30,000
- Fair market value $34,000
- Cost $40,000
Immediately after the transfer, Stone owned 100% of the corporation’s stock. The corporation’s total basis for the transferred assets is
- $30,000
- $30,500
- $34,500
- $40,500
$30,500
When a shareholder transfers property to a corporation, the corporation takes the shareholders basis in the property.
Stone’s basis of the property transferred into the corporation was $30,500, the adjusted basis of the computer equipment ($30,000) plus the cash ($500).
Hence, the corporation’s basis in the property also would be $30,500.
Section 351 Transaction
Under Section 351, no gain or loss is recognized if the property (or cash) is transferred solely for the exchange of stock of the corporation, if immediately after the transfer the transferring taxpayer or taxpayers have control over the corporation. Control is defined as owning at least 80 percent of corporation’s voting stock and at least 80 percent of the corporation’s other classes of stock.
- No stock rights
- No stock warrants
- No debt
In April, A and B formed X Corp. A contributed $50,000 cash, and B contributed land worth $70,000 (with an adjusted basis of $40,000). B also received $20,000 cash from the corporation. A and B each receives 50% of the corporation’s stock. What is the tax basis of the land to X Corp.?
- $40,000
- $50,000
- $60,000
- $70,000
$60,000
X Corp’s basis in the land is B’s basis in the land ($40,000) plus any gain recognized by B. B’s recognized gain is the lower of 1) the realized gain, or 2) the boot received. The realized gain is $30,000 ($70,000 - $40,000). The boot received is the cash of $20,000. Thus, the gain recognized is $20,000. X Corp’s basis in the land is $60,000 ($40,000 + $20,000).
B’s amount realized is computed as follows: The corporation received cash of $50,000 and land of $70,000 for a total of $120,000. But it also gave $20,000 cash back to B as part of the formation. This is subtracted from above - - so the net value of what the corporation received is $100,000. $100,000 x 50% = $50,000, so that is the value of the stock received by B. His amount realized is $50,000 + cash received of $20,000 = $70,000.
On January 2 of this year, BIG, an accrual basis, calendar-year C corporation, purchased all of the assets of a sole proprietorship, including $300,000 of goodwill. Current-year federal income tax expense of $110,100 and $7,500 for goodwill amortization (based upon 40 year amortization period) were deducted to arrive at Big’s book income of $239,200. What is Big’s current-year taxable income (as reconciled on Schedule M-1)?
- $239,200
- $329,300
- $336,800
- $349,300
$336,800
The purpose of Schedule M-1 of Form 1120, U.S. Corporation Income Tax Return is to reconcile book income (loss) with income per the return. Federal income tax is not deductible for tax purposes so it must be added back to book income, giving $349,300 ($239,200 + $110,100). The goodwill is amortized over 15 years for tax purposes, or $20,000 per year ($300,000/15 years). Thus, the book goodwill amortization is added back and the tax good will is deducted. This results in taxable income of $336,800 ($349,300 + $7,500 - $20,000).
Soma Corp. had $600,000 in compensation expense for book purposes in 2014
Included in this amount was a $50,000 accrual for 2014 nonshareholder bonuses. Soma paid the actual 2014 bonus of $60,000 on March 1, 2015.
In its 2014 tax return, what amount should Soma deduct as compensation expense?
- $600,000
- $610,000
- $550,000
- $540,000
$610,000
While cash based taxpayers deduct deferred compensation in the tax year that the compensation is actually paid to employees, accrual basis taxpayers deduct deferred compensation in the tax year that the liability to pay the compensation becomes fixed. The liability to pay the deferred compensation becomes fixed when: 1) all events have occurred to establish the liability to pay the compensation; 2) economic performance has occurred with respect to the liability; and 3) the amount can be determined with reasonable accuracy. In addition, accrual based taxpayers must pay the deferred compensation within the first 2 1/2 months of a tax year to deduct the compensation in the preceding year.
Assuming Soma Corp. fixed the liability to pay the compensation in 2014, the corporation may deduct all of the nonshareholder bonuses ($60,000) on its 2014 tax return because the bonuses were paid within the first 2 1/2 months of the end of its 2014 tax year. Since an additional $10,000 of bonuses were paid than accrued, this amount may be added to the corporation’s compensation expense, putting that expense at $610,000.
Axis Corp. is an accrual basis calendar year corporation.
On December 13, 2015, the Board of Directors declared a two percent of profits bonus to all employees for services rendered during 2015 and notified them in writing. None of the employees own stock in Axis.
The amount represents reasonable compensation for services rendered and was paid on March 13, 2016. Axis’ bonus expense may
- Not be deducted on Axis’ 2015 tax return because the per share employee amount cannot be determined with reasonable accuracy at the time of the declaration of the bonus.
- Be deducted on Axis’ 2015 tax return.
- Be deducted on Axis’ 2016 tax return.
- Not be deducted on Axis’ tax return because payment is a disguised dividend.
Be deducted on Axis’ 2015 tax return.
While cash based taxpayers deduct deferred compensation in the tax year that the compensation is actually paid to employees, accrual basis taxpayers deduct deferred compensation in the tax year that the liability to pay the compensation becomes fixed. The liability to pay the deferred compensation becomes fixed when:
- all events have occurred to establish the liability to pay the compensation;
- economic performance has occurred with respect to the liability; and
- the amount can be determined with reasonable accuracy. In addition, accrual based taxpayers must pay the deferred compensation within the first 2 1/2 months of a tax year to deduct the compensation in the preceding year.
This response correctly indicates that Axis’ bonus expense would be deducted on the corporation’s 2015. All the events occurred to establish the liability for the bonuses when the corporation declared the dividends and notified the employees. The bonuses are for services rendered in 2015, indicating that economic performance has occurred with respect to the liability, and the amount of the bonuses can be determined with reasonable accuracy. Paying the dividends on March 13, 2016 is within the first 2 1/2 months of the close of Axis’ 2015 tax year. Hence, the liability to pay the dividends became fixed in 2015 and they were paid within the first 2 1/2 months of the 2016 tax year.
Would the following expense items be reported on Schedule M-1 of the corporation income tax return showing the reconciliation of income per books with income per return?
- Interest incurred on loan to carry U.S. obligations
- Provision for state corporation income tax
NEITHER…
The purpose of Schedule M-1 of Form 1120, U.S. Corporation Income Tax Return is to reconcile book income (loss) with income per the return. Certain items need to be added to and subtracted from book income to reconcile with income per the tax return.
Added back to book income:
- Federal income taxes;
- excess capital losses over capital gains;
- income subject to tax not recorded on the books;
- and expenses recorded on the books not deducted on the retur
Subtracted from Book income:
- Income recorded on the books but not included on the return, including tax-exempt interest, and
- deductions on the return not charged against the books must be subtracted from book income.
Both the interest incurred on loan to carry U.S. obligations and the provision for state corporation income tax are deductible for GAAP. and for income tax purposes. Hence, since both of the expenses would be included in book income and in income per the return, there is no difference to reconcile and, as a result, neither expense would appear on the Schedule M-1 of Form 1120, U.S. Corporation Income Tax Return.
Azure, a C corporation, reports the following:
Pretax book income of $543,000.
- Depreciation on the tax return is $20,000 greater than depreciation on the financial statements.
- Rent income reportable on the tax return is $36,000 greater than rent income per the financial statements.
- Fines for pollution appear as a $10,000 expense in the financial statements.
- Interest earned on municipal bonds is $25,000.
What is Azure’s taxable income?
- $528,000
- $543,000
- $544,000
- $559,000
$544,000
Taxable income is computed as follows:
- Pretax book income $543,000
- Excess depreciation ($20,000)
- Prepaid rental income $36,000
- Fines $10,000
- Municipal interest income ($25,000)
Taxable income $544,000
For the year ended December 31, 2015, Kelly Corp. had net income per books of $300,000 before the provision for Federal income taxes. Included in the net income were the following items:
- Dividend income from an unaffiliated domestic taxable corporation (taxable income limitation does not apply and there is no portfolio indebtedness) $50,000
- Bad debt expense (represents the increase in the allowance for doubtful accounts) $80,000
Assuming no bad debt was written off, what is Kelly’s taxable income for the year ended December 31, 2015?
- $250,000
- $330,000
- $345,000
- $380,000
$345,000
If a C corporation owns less than 20 percent of a domestic corporation, 70 percent of dividends received or accrued from corporation may be deducted. A C corporation owning 20 percent or more but less than 80 percent of a domestic corporation may deduct 80 percent of the dividends received or accrued from the corporation. Similarly, C corporation owning 80 percent or more of a domestic corporation may deduct 100 percent of the dividends received or accrued from the corporation. However, the dividend received deduction is limited to a percentage of the taxable income of the corporation, unless the corporation sustains a net operating loss. If the corporation has a net operating loss, the dividend received deduction may be taken without limiting the deduction to a percentage of the corporation’s taxable income.
Since Kelly Corp. is not affiliated with the corporation paying the dividends, it owns less than 20 percent of the corporation paying the dividends and, as a result, may take a 70 percent (or $35,000) dividend received deduction. Bad debts are deductible with no percentage limitation. However, Kelly Corp. cannot take a deduction for its bad debt expense because no bad debt was actually incurred. Instead, the expense represents an increase in allowances for doubtful accounts. The corporation’s bad debt expense must be added back to net income.
Hence, Kelly Corp.’s taxable income is $345,000 - net income of $300,000 minus dividend received deduction of $35,000 and plus the bad debts expense of $80,000.
Brown Corp., a calendar-year taxpayer, was organized and actively began operations on July 1, 2015, and incurred the following costs:
- Legal fees to obtain corporate charter $40,000
- Commission paid to underwriter $25,000
- Other stock issue costs $10,000
Brown wishes to deduct and amortize its organizational costs over the shortest period allowed for tax purposes. In 2015, what amount should Brown deduct (ignoring amortization expenses) for the organizational expenses?
- $40,000
- $25,000
- $10,000
- $5,000
$5,000 of organizational expenses may be deducted, but the $5,000 is reduced by the amount of expenditures incurred that exceed $50,000. Expenses not deducted must be capitalized and amortized over 180 months, beginning with the month that the corporation begins its business operations. Organizational expenditures qualifying for the election are:
- Legal expenditures incurred by the corporation;
- necessary accounting services;
- expenditures of temporary directors and of organizational meeting directors and shareholders; and
- fees paid to the state of incorporation. Expenditures for issuing or selling shares of stock and for transferring the assets to the corporation do not qualify for the election.
Hence, only the $40,000 in legal fees expended to obtain the corporate charter qualified as an organizational expense. Commission paid to an underwriter and other stock issue costs do not qualify for the election as they are syndication costs. Ignoring amortization, $5,000 of the costs may be deducted this year.
Tapper Corp., an accrual basis calendar year corporation, was organized on January 2, 2015. During 2015, revenue was exclusively from sales proceeds and interest income.
The following information pertains to Tapper:
- Taxable income before charitable contributions for the year ended December 31, 2014 $500,000
- Tapper’s matching contribution to employee-designated qualified universities made during 2015 $10,000
- Board of Directors’ authorized contribution to a qualified charity (authorized December 1, 2015, made February 1, 2016) $30,000
What is the maximum allowable deduction that Tapper may take as a charitable contribution on its tax return for the year ended December 31, 2015?
- $0
- $10,000
- $30,000
- $40,000
$40,000
A corporation’s charitable contributions are deductible in the tax year paid, subject to a 10 percent of taxable income limitation. For the charitable contributions deduction, taxable income is calculated absent deductions for charitable contributions, dividends received, net operating losses and capital loss carrybacks.
Hence, Tapper Corp.’s charitable contributions would be limited to 10 percent of its $500,000 in taxable income before the charitable contributions deduction or $50,000. However, Tapper Corp. would not be subject to the limitation and may only deduct $40,000 because it only has $40,000 in contributions to charitable contributions. Tapper Corp. may deduct the employee-designated charities as the employees are viewed as performing only an administrative duty.
Question #8 (AICPA.900534REG-P2-AR)
Which of the following cannot be amortized for tax purposes?
- Incorporation costs.
- Temporary directors’ fees.
- Stock issuance costs.
- Organizational meeting costs.
Stock issuance costs are a syndication cost. Therefore, they are not deductible.
The corporate dividends-received deduction
- Must exceed the applicable percentage of the recipient shareholder’s taxable income.
- Is affected by a requirement that the investor corporation must own the investee’s stock for a specified minimum holding period.
- Is unaffected by the percentage of the investee’s stock owned by the investor corporation.
- May be claimed by S corporations.
Is affected by a requirement that the investor corporation must own the investee’s stock for a specified minimum holding period.
A C corporation owning less than 20 percent of a domestic corporation may deduct 70 percent of dividends received or accrued from that corporation. Owning 20 percent or more but less than 80 percent of a domestic corporation allows for the deduction of 80 percent of the dividends received or accrued from that corporation. Similarly, if a C corporation owns 80 percent or more of a domestic corporation, it may deduct 100 percent of the dividends received or accrued from that corporation.
However, the dividend received deduction is limited to a percentage of the taxable income of the corporation, unless the corporation sustains a net operating loss. If the corporation has a net operating loss, the dividend received deduction may be taken without limiting the deduction to a percentage of the corporation’s taxable income. To qualify for the dividends received deduction, the C corporation must hold the stock or securities for at least 46 days.
Since this response indicates that the corporate dividend received deduction is affected by a requirement that the investor corporation must own the investee’s stock for a specified minimum holding period, it is correct.
If a corporation’s charitable contributions exceed the limitation for deductibility in a particular year, the excess
- Is not deductible in any future or prior year.
- May be carried back or forward for one year at the corporation’s election.
- May be carried forward to a maximum of five succeeding years.
- May be carried back to the third preceding year.
May be carried forward to a maximum of five succeeding years.
When a corporation’s charitable contributions exceed the limitation for deductibility in a particular year (i.e., 10 percent of taxable income for the year), the excess may be carried over and deducted for five years. This response states the correct carryover period and is, therefore, correct.
For year 2, Quest Corp., an accrual-basis calendar-year C corporation, had an $8,000 unexpired charitable contribution carryover from year 1. Quest’s year 2 taxable income before the deduction for charitable contributions was $200,000. On December 12, year 2, Quest’s board of directors authorized a $15,000 cash contribution to a qualified charity, which was made on January 6, year 3. What is the maximum allowable deduction that Quest may take as a charitable contribution on its year 2 income tax return?
- $23,000
- $20,000
- $15,000
- $8,000
$20,000
Charitable contributions are limited to 10% of taxable income before the charitable contribution deduction, which is $20,000 ($200,000 x 10%). Total contributions are $15,000 + $8,000 = $23,000. The deduction is limited to $20,000 and $3,000 of the contribution from Year 1 is carried forward to Year 3.
Note - the carryforward may be utilized once the current year contribution is used fully. The remaining amount from the carryforward continues on to be carried forward to the succeeding years.
If a corporation’s tentative minimum tax exceeds the regular tax, the excess amount is
- Subtracted from the regular tax.
- Payable in addition to the regular tax.
- Carried back to the third preceding taxable year.
- Carried back to the first preceding taxable year.
Payable in addition to the regular tax.
The amount that the tentative minimum tax exceeds the regular tax is the alternative minimum tax (AMT). This tax was enacted to ensure that taxpayers cannot avoid their fair share of the tax burden. The AMT prevents taxpayers with significant income from avoiding a similar tax liability. The AMT is payable in addition to the regular tax.
Widget Corporation was formed in Year 1. Gross receipts for its first four years of operations are as follows
- Year 1 $6,000,000
- Year 2 $7,000,000
- Year 3 $5,000,000
- Year 4 $4,000,000
For each year, is Widget Corporation exempt from the AMT under the small corporation exemption?
Year 1 - YES
Year 2 - NO
Year 3 - NO
Year 4 - NO
In the first year of a corporation’s existence it is automatically exempt from the AMT (Yes). Widget’s first testing window to determine if it is subject to the AMT in Year 2 is just Year 1 gross receipts of $6,000,000. Since this exceeds the $5,000,000 threshold for the first three-year testing window (or portion thereof), Widget is NOT exempt from the AMT in Year 2. Once the small corporation exemption test is failed, then the corporation is NOT exempt for all future tax years, so the answer is NO for Years 3 and 4 also.
Tan Corporation calculated the following taxes for the year:
Regular tax liability$210,000
Tentative minimum tax240,000
Personal Holding Company Tax65,000
What is Tan’s total tax liability for the year?
- $210,000
- $240,000
- $275,000
- $305,000
$305,000
A corporation must pay the alternative minimum tax (AMT) to the extent that the tentative minimum tax liability exceeds the regular tax liability. Therefore, Tan must pay an AMT of $30,000 ($240,000 − $210,000) in addition to the regular tax liability of $210,000. The personal holding company tax is an excise tax that penalizes companies who have excess investment income. The $65,000 PHC tax is in addition to the regular tax.
The total tax liability is $305,000 ($210,000 + $30,000 + $65,000).
Rona Corp.’s 2015 alternative minimum taxable income was $200,000.
The exempt portion of Rona’s 2015 alternative minimum taxable income was
- $0
- $12,500
- $27,500
- $52,500
$27,500
When computing alternative minimum taxable income, corporations may take an exemption of $40,000 minus 25 percent of alternative minimum taxable income exceeding $150,000.
Thus, this exemption is equal to zero when alternative minimum taxable income is equal to or exceeds $310,000.
Rona Corp.’s exempt portion of its 2015 alternative minimum taxable income was $27,500 = $40,000 − [25 percent * ($200,000 − $150,000)].
The accumulated earnings tax can be imposed
- Regardless of the number of stockholders of a corporation.
- On personal holding companies.
- On companies that make distributions in excess of accumulated earnings.
- On both partnerships and corporations.
Regardless of the number of stockholders of a corporation.
The accumulated earnings tax is a tax imposed on corporations that accumulate earnings beyond reasonable amount. This tax was imposed to prevent corporations from accumulating earnings and profits with the purpose of avoiding income tax on its shareholders.
Any corporation accumulating earnings beyond the point of reasonable needs of the business is considered to have accumulated the earnings for the tax benefit of its shareholders, unless a preponderance of the evidence indicates otherwise. Only the shareholders of closely-held corporations would tend to have the power to retain corporate earnings for their benefit. As a result, the accumulated earnings tax tends to be applied more often to closely-held corporations.
However, the number of shareholders in a corporation is not a determining factor in imposing the tax. Hence, the accumulated earnings tax may be applied regardless of the number of shareholders in a corporation.
Kari Corp., a manufacturing company, was organized on January 2, 2015. Its 2015 federal taxable income was $400,000 and its federal income tax was $100,000.
What is the maximum amount of accumulated taxable income that may be subject to the accumulated earnings tax for 2015 if Kari takes only the minimum accumulated earnings credit?
- $300,000
- $150,000
- $50,000
- $0
$50,000
The accumulated earnings tax is a penalty tax imposed on corporations that accumulates earnings and profits for the purpose of avoiding income tax for its shareholders. The accumulated earnings tax is equivalent to 20 percent of the corporation’s accumulated taxable income.
Accumulated taxable income is composed of taxable income adjusted downward for federal income and excess profits taxes, charitable deduction in excess of the ceiling, net capital gains and losses, and taxes of foreign countries and U.S. possessions and upward for certain corporate deductions, net operating loss deduction and capital loss carryback or carryover.
When calculating the accumulated earnings tax, corporations are given a credit, the accumulated earnings credit, of $250,000 ($150,000 for certain service corporations) plus dividends paid within the first 2 1/2 months of the corporation’s tax year less accumulated earnings and profits at the end of the preceding tax year.
Hence, the maximum amount of accumulated taxable income that may be subject to the accumulated earnings tax for 2015 if Kari Corp. takes only the minimum accumulated earnings credit is $50,000. This amount is composed of $400,000 in taxable income less both a downward adjustment of $100,000 for federal income taxes and the $250,000 accumulated earnings credit.
Zero Corp. is an investment company authorized to issue only common stock.
During the last half of 2015, Edwards owned 450 of the 1,000 outstanding shares of stock in Zero. Another 350 shares of stock outstanding were owned, 10 shares each, by 35 shareholders who are neither related to each other nor to Edwards.
Zero could be a personal holding company if the remaining 200 shares of common stock were owned by
- An estate where Edwards is the beneficiary.
- Edwards’ brother-in-law.
- A partnership where Edwards is not a partner.
- Edwards’ cousin.
An estate where Edwards is the beneficiary.
Domestic and foreign corporations satisfying the personal holding company stock ownership and income tests are personal holding companies. As such, the corporation will be subject a 15 percent penalty tax on undistributed personal holding company income. The stock ownership test is satisfied if, at some time during the corporation’s tax year, 50 percent or more of the corporation’s stock was directly or indirectly owned by five or fewer individuals.
An individual indirectly owns stock if it is owned by the individual’s family or partner. Family includes the individual’s brothers, sisters, spouse and lineal descendants and ancestors. An individual will not be considered to be the constructive owner of the stock owned by nephews, cousins, uncles, aunts, and any of his/hers spouses relatives. Constructive ownership also may exist if the individual is a partner in a partnership or the beneficiary of an estate that is a shareholder. The income test is satisfied if 60 percent or more of the corporation’s adjusted ordinary gross income is personal holding company income.
With 450 shares, Edwards already directly owns 45 percent of Zero Corp.’s outstanding stock. If an estate where Edwards is the beneficiary owns the remainder of the corporation’s 200 shares of stock, Edwards would directly or indirectly own 65 percent of the corporation. An ownership exceeding the 50 percent direct or indirect ownership percentage is needed to satisfy the stock ownership test.
Hence, Zero Corp. could be a personal holding company if the remaining 200 shares were owned by an estate where Edwards is the beneficiary. Each response given to this question satisfies the stock ownership test for a personal holding company because, in each response, 5 or fewer individuals would own more than 50 percent of the corporation’s stock. However, this response is the best as it concentrates over 50 percent ownership under the control of one individual.
Tech Corp. files a consolidated return with its wholly-owned subsidiary, Dow Corp. During 2015, Dow paid a cash dividend of $20,000 to Tech.
What amount of this dividend is taxable on the 2015 consolidated return?
A. $20,000
B. $14,000
C. $6,000
D. $0
$0
When filing a consolidated return the intercompany dividends between the parent and its subsidiaries are not taxable. To be permitted to file a consolidated return, the parent and its subsidiaries must be members of an affiliated group.
Corporations qualify as members of an affiliated group by having a common parent that directly owns at least 80 percent of the total voting stock and at least 80 percent of the total value of the stock in at least one other includible corporation. In addition, a minimum of one of the other includible corporations must own at least 80 percent in each of the remaining includible corporations. The primary advantages of filing a consolidated return are that:
- intercompany dividends are excludable from taxable income;
- losses of one affiliated member offset gains of another member; and
- intercompany profits are deferred until realized.
When a consolidated return is filed by an affiliated group of includible corporations connected from inception through the requisite stock ownership with a common parent,
- Intercompany dividends are excludable to the extent of 80%.
- Operating losses of one member of the group offset operating profits of other members of the group.
- The parent’s basis in the stock of its subsidiaries is unaffected by the earnings and profits of its subsidiaries.
- Each of the subsidiaries is entitled to an accumulated earnings tax credit.
Operating losses of one member of the group offset operating profits of other members of the group.
The primary advantages of filing a consolidated return are that:
- intercompany dividends are 100 percent excludable from taxable income;
- losses of one affiliated member offset gains of another member; and
- intercompany profits are deferred until realized.
This response correctly states that the operating losses of one member of the group offset operating profits of other members of the group. The response is, therefore, correct.
ParentCo, SubOne, and SubTwo have filed consolidated returns since their inception. The members reported the following taxable incomes (losses) for the year:
- ParentCo $50,000
- SubOne ($60,000)
- SubTwo( $40,000)
No member reported a capital gain or loss or charitable contributions. What is the amount of the consolidated net operating loss?
- $0
- $30,000
- $50,000
- $100,000
$50,000
On the consolidated tax return the income and losses of all the corporations are netted. Therefore, the net loss for the year is $50,000 ($100,000 of losses less $50,000 of income from ParentCo).
Commerce Corp. elects S corporation status as of the beginning of year 2015. At the time of Commerce’s election, it held a machine with a basis of $20,000 and a fair market value of $30,000. In March of 2015, Commerce sells the machine for $35,000. What amount of Commerce’s gain would be subject to the built-in gains tax?
- $0
- $ 5,000
- $10,000
- $15,000
$10,000
The requirement is to determine the amount of an S corporation’s gain that is subject to the built-in gains tax. A C corporation that makes an S election is subject to a built-in gains tax to the extent that its recognized gain is attributable to a net unrealized built-in gain as of the first day of its S status. Here, assuming that Commerce Corp. was a C corporation prior to the year 2015, its recognized gain of $35,000 — $20,000 = $15,000 from the sale of the machine during March of 2015 will be subject to a built-in gains tax to the extent of the machine’s unrealized built-in gain of $30,000 — $20,000 = $10,000 as of the beginning of 2015.
On January 1, 2015, Kee Corp., a C corporation, had a $50,000 deficit in earnings and profits. For 2015 Kee had current earnings and profits of $10,000 and made a $30,000 cash distribution to its stockholders. What amount of the distribution is taxable as dividend income to Kee’s stockholders?
- $30,000
- $20,000
- $10,000
- $0
$10,000
Corporate distributions to shareholders are taxable to the shareholder as dividend income to the extent earnings and profits, current and accumulated. Distributions in excess of earnings and profits are treated as returns of capital that are nontaxable except to the extent that the distribution exceeds the shareholders basis in the property.
Since Kee Corp. had current earnings of $10,000, the shareholders would be viewed as receiving $10,000 in dividend income. The remaining $20,000 of the distribution would be treated as a return of capital. Distributions are deemed to be paid from current earnings and profits and then from accumulated earnings and profits.
This year ABC corporation, a calendar-year, accrual-basis corporation, made a nonliquidating cash distribution to its shareholders of $1,000,000 with respect to its stock. At that time ABC’s current and accumulated E&P totaled $750,000 and its total paid-in capital for tax purposes was $10,000,000. Since ABC had no corporate shareholders, the distribution:
- I. Was taxable as $750,000 of dividend income to its shareholders.
- II. Reduced its shareholders’ adjusted bases in Ridge stock by $250,000.
- I only.
- II only.
- Both I and II.
- Neither I nor II.
Both I and II.
Corporate distributions to shareholders are taxable to the shareholder as dividend income only to the extent of earnings and profits, current and accumulated. Distributions in excess of earnings and profits are treated as returns of capital.
A return of capital reduces a shareholder’s basis in the property and is a nontaxable event except to the extent that the distribution exceeds the shareholders basis in the property.
Hence, this response is correct in stating $750,000 of the distribution will be treated as dividend income, an amount equal to current and accumulated earnings. In addition, this response correctly indicates that the amount of the distribution in excess of earnings and profits would be treated as a return of capital and, accordingly, result in a reduction of the shareholders’ adjusted basis in Ridge Corp. stock.
Tank Corp., which had earnings and profits of $500,000, made a nonliquidating distribution of property to its shareholders in 2015 as a dividend in kind. This property, which had an adjusted basis of $20,000 and a fair market value of $30,000 at the date of distribution, did not constitute assets used in the active conduct of Tank’s business.
How much gain did Tank recognize on this distribution?
- $30,000
- $20,000
- $10,000
- $0
$10,000
When a corporation makes a nonliquidating distribution of appreciated property to its shareholders, the corporation recognizes a taxable gain. The property is viewed to have been sold to its shareholders for its fair market value at the date of the distribution. Corporations do not recognize losses from nonliquidating distributions of property. Since Tank Corp.’s basis in the property was $20,000 and the fair market value of the property was $30,000, the corporation must recognize a gain of $10,000.
Simon, a C corporation, had a deficit in accumulated earnings and profits of $50,000 at the beginning of the year and had current earnings and profits of $10,000. At year end, Simon paid a dividend of $15,000 to its sole shareholder. What amount of the dividend is reported as income?
- $0
- $5,000
- $10,000
- $15,000
$10,000
When accumulated E&P is negative and current E&P is positive, distributions are treated as dividends to the extent of current E&P. Thus, $10,000 is reported as dividend income and the other $5,000 is a return of capital.
Brisk Corp. is an accrual-basis, calendar-year C corporation with one individual shareholder. At year end, Brisk had $600,000 accumulated and current earnings and profits as it prepared to make its only dividend distribution for the year to its shareholder. Brisk could distribute either cash of $200,000 or land with an adjusted tax basis of $75,000 and a fair market value of $200,000. How would the taxable incomes of both Brisk and the shareholder change if land were distributed instead of cash?
- Brisk’s taxable income
- Shareholder’s taxable income
- Brisk’s taxable income - INCREASE
- Shareholder’s taxable income - NO CHANGE
If Brisk distributes $200,000 cash the shareholder will have $200,000 of dividend income (since sufficient earnings and profits exist). It the land is distributed, the amount of the distribution is the land’s fair market value of $200,000 so the shareholder would still have $200,000 of dividend income. Thus, there is no change for the shareholder’s taxable income.
If Brisk distributes appreciated property as a dividend, it must recognize the appreciation in the property as income ($200,000 − $75,000 = $125,000). Therefore, Brisk would have higher taxable income if the land was distributed in comparison to the cash.
Webster, a C corporation, has $70,000 in accumulated and no current earnings and profits. Webster distributed $20,000 cash and property with an adjusted basis and fair market value of $60,000 to its shareholders. What amount should the shareholders report as dividend income?
- $20,000
- $60,000
- $70,000
- $80,000
$70,000
Dividend income must be reported for the distribution to the extent of Webster’s current and accumulated earnings and profits ($70,000). The amount of the distribution is the cash of $20,000 plus the fair market value ($60,000) of the property distributed, or $80,000. This distribution is taxed as $70,000 of dividend income with the remaining $10,000 treated as a return of the shareholders’ bases in their stock.
Fox, the sole shareholder in Fall, a C corporation, has a tax basis of $60,000. Fall has $40,000 of accumulated positive earnings and profits at the beginning of the year and $10,000 of current positive earnings and profits for the current year. At year end, Fall distributed land with an adjusted basis of $30,000 and a fair market value (FMV) of $38,000 to Fox. The land has an outstanding mortgage of $3,000 that Fox must assume. What is Fox’s tax basis in the land?
- $38,000
- $35,000
- $30,000
- $27,000
$38,000
For dividends, the amount distributed is the fair market value of the property received less any liabilities assumed by the shareholder, or $35,000 ($38,000 − $3,000). Fox would have $35,000 of dividend income since earnings and profits is at least this amount. However, the basis in the property received as a taxable dividend is always the fair market value of the property, or $38,000.
At the beginning of the year, West Wind, a C corporation, had a deficit of $45,000 in accumulated earnings and profits. For the current year, West wind reported earnings and profits of $15,000. West wind distributed $12,000 during the year.
What was the amount of West Wind’s accumulated earnings and profits at year-end?
- $30,000 deficit
- $42,000 deficit
- $45,000 deficit
- $57,000 deficit
$42,000 deficit
(45,000) is E&P at beginning of the year, plus 15,000 earnings, less 12,000 distribution = ($42,000). Note that this distribution of $12,000 does not increase the deficit in E&P since there was $15,000 of earnings for the current year.
Dahl Corp. was organized and commenced operations in 1930. At December 31, 2015, Dahl had accumulated earnings and profits of $9,000 before dividend declaration and distribution.
On December 31, 2015 Dahl distributed cash of $9,000 and a vacant parcel of land to Green, Dahl’s only stockholder. At the date of distribution, the land had a basis of $5,000 and a fair market value of $40,000.
What was Green’s taxable dividend income in 2015 from these distributions?
- $9,000
- $14,000
- $44,000
- $49,000
$44,000
Corporate distributions to shareholders are taxed to shareholders as dividend income to the extent that the distribution does not exceed current and accumulated earnings and profits. Distributions in excess of current and accumulated earnings and profits are treated as returns of capital. The distribution of appreciated property increases a corporation’s earnings and profits increase by the amount of the difference between the distributed property’s fair market value and the corporation’s adjusted basis in the distributed property.
Thus, while Dahl Corp. had earnings and profits totaling $9,000 before the dividend declaration and distribution, the corporation’s earnings and profits increased by $35,000, the land’s $40,000 fair market value less its adjusted basis of $5,000, to $44,000 due to the distribution of the land.
Green received $49,000 of property in the distribution - $9,000 in cash and land with a fair market value of $40,000. The amount of the distribution classified as dividend income is limited to the corporation’s earnings and profits. Thus, Green would report $44,000 of dividend income from the distribution.
What is the usual result to the shareholders of a distribution in complete liquidation of a corporation?
- No taxable effect.
- Ordinary gain to the extent of cash received.
- Ordinary gain or loss.
- Capital gain or loss.
Capital gain or loss.
In a complete liquidation, shareholders generally recognize capital gains and losses from corporate distributions. The amount of assets received by a shareholder is treated as full payment in exchange for the stock.
The capital gain or loss recognized by a shareholder equals the total distribution less the shareholder’s basis.
A corporation was completely liquidated and dissolved during 2015. The filing fees, professional fees, and other expenditures incurred in connection with the liquidation and dissolution are
- Deductible in full by the dissolved corporation.
- Deductible by the shareholders and not by the corporation.
- Treated as capital losses by the corporation.
- Not deductible either by the corporation or shareholders.
Deductible in full by the dissolved corporation.
Filing, professional fees (accounting and legal) and other expenditures incurred in connection with liquidations and dissolutions are fully deductible for the dissolving corporation.
How does a non-corporate shareholder treat the gain on a redemption of stock that qualifies as a partial liquidation of the distributing corporation?
- Entirely as a capital gain.
- Entirely as a dividend.
- Partly as a capital gain and partly as a return of capital.
- Entirely as a tax-free transaction.
Entirely as a capital gain.
Non-corporate shareholders treat the gain on a redemption of stock that qualifies as a partial liquidation of the distributing corporation as a capital gain, just as if they had sold their stock. Corporate shareholders receive dividend treatment on a partial liquidation.
S Corporation was a wholly-owned subsidiary of P Corporation. Both corporations were domestic C corporations. P received a liquidating distribution of property (worth $250 and a basis of $135) from S in cancellation of the stock. What amount of gain will P recognize if P had a basis of $100 in the S stock before the receipt of the property?
- $0
- $35
- $150
- $250
$0
If stock of a subsidiary is liquidated by its parent company, any realized gain on the transaction is, in general, not recognized. The realized gain to parent is $150 ($250 property received - $100 basis). The recognized gain is zero.
Brooke, Inc., an S corporation, was organized on January 2, 2015, with two equal shareholders. Each shareholder invested $5,000 in Brooke’s capital stock, and each loaned $15,000 to the corporation. Brooke then borrowed $60,000 from a bank for working capital. Brooke sustained an operating loss of $90,000 for the year ended December 31, 2015. If each shareholder materially participates in the corporation’s business, how much loss can each shareholder claim on his 2015 income tax return?
- $ 5,000
- $20,000
- $45,000
- $50,000
$20,000
An S corporation loss is passed through to shareholders and is deductible to the extent of a shareholder’s basis for stock plus the basis for any debt owed the shareholder by the corporation. Here, each shareholder’s allocated loss of $45,000 ($90,000/2) is deductible to the extent of stock basis of $5,000 plus debt basis of $15,000, or $20,000. The remainder of the loss ($25,000 for each shareholder) can be carried forward indefinitely by each shareholder and deducted when there is basis for stock or debt to absorb it.
Darien Corp. was a calendar-year S corporation. Darien’s S status terminated on February 1, 2015, when Aspar Corp. became a shareholder. During 2015 (365-day calendar year), Darien had nonseparately computed income of $273,750. If no election is made by Darien, what amount of the income, if any, would be allocated to the S short year for 2015?
- $0
- $22,500
- $22,813
- $23,250
$23,250
The requirement is to determine the amount of income that should be allocated to Darien Corp.’s short S year when its S election is terminated on February 1, 2015. When a corporation’s subchapter S election is terminated during a taxable year, its income for the entire year must be allocated between the resulting S short year and C short year. If no special election is made, the income must be allocated on a daily basis between the S and C short years. In this case the daily income equals $273,750/365 days = $750/day. Since the election was terminated on February 1, there would be 31 days in the S short year, and $750 × 31 = $23,250 of income would be allocated to the tax return for the S short year to be passed through and taxed to shareholders.
Pursuant to a plan of corporate reorganization adopted in the current year, Myra Eber exchanged 1,000 shares of Faro Corp. common stock that she had purchased for $75,000, for 1,800 shares of Judd Corp. common stock having a fair market value of $86,000. As a result of this exchange, Eber’s recognized gain and her basis in the Judd stock should be?
Recognized Gain = $0
Basis = $75,000
No gain or loss is recognized if stock is exchanged solely for stock in a corporation that is a party to the reorganization. Thus, Eber’s basis in the Judd stock received is the same as her basis in the Faro stock transferred, $75,000.
Easy Corporation’s earnings and profits for 2015, its first year of operations, were $22,000. In December 2015, it distributed to its individual stockholders, cash of $10,000 and land with a fair market value of $25,000 at the date of distribution. Prior to the distribution, the stockholders’ tax basis for their stock in the corporation was $76,000. What is the stockholders’ basis for their Easy stock at the end of 2015?
- $51,000
- $52,000
- $63,000
- $74,000
$63,000
The amount of a distribution is the amount of cash plus the fair value of other property distributed. Therefore, Easy Corporation’s total distribution to shareholders is $35,000 ($10,000 cash + $25,000 FMV of the property). This distribution is treated as a dividend to the shareholders to the extent of the corporation’s earnings and profits ($22,000), while the remaining $13,000 ($35,000 — $22,000) is considered a nontaxable return of stock basis and as such results in a reduction of the shareholders’ stock basis. Thus, the shareholders’ stock basis at the end of 2015 is $63,000 ($76,000 — $13,000).
Aztec, a C corporation, distributed an asset to Burn, a shareholder. The asset had a fair market value of $30,000 and was subject to a $40,000 liability, assumed by Burn. The asset had an adjusted basis of $25,000. What amount of gain must Aztec recognize?
- $0
- $ 5,000
- $10,000
- $15,000
$15,000
The requirement is to determine the amount of gain that Aztec corporation must recognize on the distribution of property and liability to a shareholder. Generally, a corporation must recognize gain on the distribution of appreciated property to a shareholder. The gain is measured by treating the corporation as if it had sold the property to the shareholder for fair market value. However, if there is a liability on the property that is assumed by the shareholder and the amount of liability exceeds the property’s fair market value, then the amount of liability is used to measure the gain. Here, Aztec’s recognized gain would be the $40,000 liability — $25,000 basis = $15,000.
Question 17:
With regard to the federal estate tax, all of the following statements concerning the alternate valuation are correct, except:
- The alternate valuation can be elected only if its use decreases both the value of the gross estate and the estate tax liability.
- The alternate valuation election is irrevocable and applies to all property in the estate.
- The alternate valuation is generally a date 6 months subsequent to the decedent’s death.
- If the alternate valuation is elected, property disposed of within 6 months of death is valued at fair market value at date of decedent’s death.
If the alternate valuation is elected, property disposed of within 6 months of death is valued at fair market value at date of decedent’s death.
Property is included at FMV at date of decedent’s death; or executor may elect to use FMV at alternate valuation date (generally a date six months subsequent to death), if such election will reduce both the gross estate and the federal estate tax liability.
- If alternate valuation is elected, but property is disposed of within six months of death, then use FMV on date of disposition.
- Election is irrevocable and applies to all property in estate; cannot be made on an individual property basis.
For the current year, Cape Co. reported book income of $140,000. Included in that amount was $50,000 for meals and entertainment expense and $40,000 for federal income tax expense. In Cape’s Schedule M-1 of Form 1120, which reconciles book income and taxable income, what amount should be reported as taxable income?
- $205,000
- $190,000
- $180,000
- $140,000
$205,000
The $50,000 of meals and entertainment expense and the $40,000 of federal income tax expense were deducted in arriving at book income of $140,000. Since only 50% of business meals and entertainment are deductible for tax purposes, 50% × $50,000 = $25,000 must be added back to book income. Similarly, the $40,000 of federal income tax expense is not tax deductible and must be added back to book income. Thus, Cape’s taxable income would be $140,000 + $25,000 + $40,000 = $205,000.
Richards Corporation had taxable income of $280,000 before deducting charitable contributions for its tax year ended December 31, 2015, but after deducting a dividends-received deduction of $34,000. Richards made cash contributions of $35,000 to charitable organizations. How much can Richards deduct as contributions for 2015?
- $28,000
- $31,400
- $32,000
- $35,000
$31,400
Since charitable contributions (CC) are limited to 10% of taxable income (TI) before the contributions and dividends-received deduction (DRD), the DRD of $34,000 must be added back to TI to arrive at the contributions base against which to apply the 10% limitation:
- TI before CC $280,000
- Add back DRD $34,000
- TI before CC and DRD $314,000
- % limitation × 10%
- Allowable contributions $31,400
A C corporation must use the accrual method of accounting in which of the following circumstances?
- The business had average sales for the past three years of less than $1 million.
- The business is a service company and has over $1 million in sales.
- The business is a personal service business with over $15 million in sales.
- The business has more than $10 million in average sales.
The business has more than $10 million in average sales.
C corporations generally are not entitled to use the cash method and instead must use the accrual method of accounting. One exception to this rule permits a C corporation that is a qualified personal service corporation to use the cash method regardless of gross receipts. A second exception permits a C corporation to use the cash method if for every year it has average annual gross receipts of $5 million or less for any prior 3-year period, provided it does not have inventories for sale to customers. A third exception permits a C corporation to use the cash method if it has average annual gross receipts of $1 million or less for any prior 3-year period.