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chapter_5_notes - 5-1 Chapter 5 Corporations Earnings and...

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5-1 Chapter 5 Corporations: Earnings and Profits & Dividend Distributions (2012) updated: August. 9, 2011 Learning Objectives: Explain how current E & P is computed Explain the difference between current and accumulated E & P Understand the tax consequences of cash distributions o to the shareholder, and o to the corporation Understand the tax consequences of property distributions o to the shareholder, and o to the corporation Understand the reason for & the tax treatment of constructive dividends Determine the tax consequences of stock dividends and the distribution of stock rights I. Tax Treatment of Corporate Distributions A. From the shareholder’s perspective – does the distribution received result in… 1. taxable dividend income (furthermore, is it a “qualified” dividend) 2. nontaxable recovery of capital, or 3. a capital gain? Note: Under Sec. 316 distributions by a corporation to its shareholders are presumed to be dividends unless can prove otherwise. B. From the corporation’s perspective – does the distribution result in… 1. a tax deduction (usually NO, which results in double taxation), and 2. the recognition of any gain or loss? C. There are two types of corporate distributions 1. nonliquidating distributions (covered in chapter 5) 2. liquidating distributions (will be covered in chapter 6)
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5-2 D. Dividend distributions from E & P (Sec. 316) 1. distributions of cash & property from a corporation’s earnings and profits (often referred to as “E & P”) are usually taxable to the shareholder 2. for individual shareholders taxable dividends are treated as either ordinary income – taxed at the marginal rate, or “qualified” dividends – taxed at the preferential long-term capital gains rate of 15%/0% 3. for corporate shareholders taxable dividends are eligible for the 70 or 80-percent dividends received deduction 4. property distributions include: securities and other assets 5. property does not include stock, or stock rights of the corporation 6. nonliquidating dividends are not tax deductible by the corporation E. Dividend distributions in excess of E & P 1. distributions are nontaxable to extent of shareholder’s basis (i.e., a return of capital) 2. shareholder’s basis in stock may be reduced to zero 3. distributions in excess of shareholder’s basis are recognized as a capital gain
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5-3 II. Earnings and Profits (Sec. 312) A. E & P is separated between 1. current E & P – generated in the current year 2. accumulated E & P – generated in all prior years (since February 28, 1913) B. Ordering 1. distributions are deemed to come first from current E & P 2. if current E & P is exhausted, then distributions are deemed to come from accumulated E & P 3. distributions in excess of current and accumulated E & P are considered a return of capital to the extent of stock basis 4. distributions in excess of stock basis are treated as a capital gain III. Computing Current and Accumulated E & P A. E & P represents 1. the upper limit on the amount of dividend income a shareholder must recognize on corporate distributions 2. it represents the corporation's economic income, or their “economic
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