Ajax Corporation is a calendar year taxpayer which was organized two years ago a
ID: 2486432 • Letter: A
Question
Ajax Corporation is a calendar year taxpayer which was organized two years ago and elected S corporation status for its first taxable year. Ajax's stock is owned one-third by Dewey and two-thirds by Milt. At the beginning of the current year, Dewey's basis in his Ajax shares was $3,000 and Milt's basis in his shares was $5,000. During the year, Ajax will earn $9,000 of net income from operations and have a $3,000 long-term capital gain on the sale of 100 shares of Exxon stock. What results to Dewey, Milt and Ajax in the following alternative situations?
(a) On October 15, Ajax distributes $5,000 to Dewey and $10,000 to Milt.
(b) On October 15, Ajax distributes $8,000 to Dewey and $16,000 to Milt.
(c) Ajax redeems all of Dewey's stock on the last day of the year for $20,000. What result to Dewey?
(d) On October 15, Ajax redeems one-fourth of Dewey's stock for $5,000 and one-fourth of Milt's stock for $10,000.
(e) Ajax distributes a parcel of land with a basis of $9,000 and a FMV of $8,000 to Dewey and a different parcel with a basis of $13,000 and FMV of $16,000 to Milt.
(f) On October 15, Ajax distributes its own notes to Dewey and Milt. Dewey receives an Ajax five year, 12% note with a face amount and FMV of $8,000 and Milt receives an Ajax five year, 12% note with a face amount and FMV of $16,000.
Explanation / Answer
a.
Ajax has always been an S corporation so it does not have E&P and consequently §1368(b) applies to the distributions.
Dewey 1/3rd
Milt 2/3rd
Basis:
3,000
5,000
Add:
(1/3rd of 9,000 nonseparate)(§1367(a)1)(B))
3,000
(2/3rd of 9,000 nonseparate)(§1367(a)1)(B))
6,000
Add:
(1/3rd of 3,000) separate §1367(a)(1)(A)
1,000
(2/3rd of 3,000) separate §1367(a)(1)(A)
2,000
Basis (§1367(a)(1)(A) & (B))
7,000
Basis (§1367(a)(1)(A) & (B))
13,000
Less:
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
5,000
Tax-free Distribution(§1368(b)(1)/§1367(a)(2)(A))
10,000
Remaining Basis
2,000
3,000
b.
Dewey 1/3rd
Milt 2/3rd
Basis:
3,000
5,000
Add:
(1/3rd of 9,000 nonseparate)(§1367(a)1)(B))
3,000
(2/3rd of 9,000 nonseparate)(§1367(a)1)(B))
6,000
Add:
(1/3rd of 3,000) separate §1367(a)(1)(A)
1,000
(2/3rd of 3,000) separate §1367(a)(1)(A)
2,000
Basis (§1367(a)(1)(A) & (B))
7,000
Basis (§1367(a)(1)(A) & (B))
13,000
Less:
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
8,000
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
16,000
-1,000
-3,000
Gain §1368(b)(2)
1000
3000
Remaining basis
0
0
c.
Dewey 1/3rd
Basis:
3,000
Add:
(1/3rd of 9,000 nonseparate)(§1367(a)1)(B))
3,000
Add:
(1/3rd of 3,000) separate §1367(a)(1)(A)
1,000
Ending basis
(§1367(a)(1)(A) & (B))
7,000
Gain = $20,000 - $7,000 ending basis = $13,000
d.
Dewey 1/3rd
Milt 2/3rd
Basis:
3,000
5,000
Add:
(1/3rd of 9,000 nonseparate)(§1367(a)1)(B))
3,000
(2/3rd of 9,000 nonseparate)(§1367(a)1)(B))
6,000
Add:
(1/3rd of 3,000) separate §1367(a)(1)(A)
1,000
(2/3rd of 3,000) separate §1367(a)(1)(A)
2,000
Ending basis
(§1367(a)(1)(A) & (B))
7,000
Basis (§1367(a)(1)(A) & (B))
13,000
Less:
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
5,000
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
10,000
2,000
3,000
Gain §1368(b)(2)
0
0
Remaining basis
2,000
3,000
e.
Dewey 1/3rd
Milt 2/3rd
Basis:
3,000
5,000
Add:
(1/3rd of 9,000 nonseparate)(§1367(a)1)(B))
3,000
(2/3rd of 9,000 nonseparate)(§1367(a)1)(B))
6,000
Add:
(1/3rd of 3,000) separate §1367(a)(1)(A)
2,000
(2/3rd of 3,000) separate §1367(a)(1)(A)
4,000
Ending basis
(§1367(a)(1)(A) & (B))
8,000
Basis (§1367(a)(1)(A) & (B))
15,000
Less:
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
8,000
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
16,000
0
-1,000
Gain §1368(b)(2)
0
1,000
Remaining basis
0
0
f.
Dewey 1/3rd
Milt 2/3rd
Basis:
3,000
5,000
Add:
(1/3rd of 9,000 nonseparate)(§1367(a)1)(B))
3,000
(2/3rd of 9,000 nonseparate)(§1367(a)1)(B))
6,000
Add:
(1/3rd of 3,000) separate §1367(a)(1)(A)
1,000
(2/3rd of 3,000) separate §1367(a)(1)(A)
2,000
Ending basis
(§1367(a)(1)(A) & (B))
7,000
Basis (§1367(a)(1)(A) & (B))
13,000
Less:
Distribution of note (§1368(b)(1)/§1367(a)(2)(A))
8,000
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
16,000
-1,000
-3,000
Gain §1368(b)(2)
1,000
3,000
Remaining basis
0
0
Dewey 1/3rd
Milt 2/3rd
Basis:
3,000
5,000
Add:
(1/3rd of 9,000 nonseparate)(§1367(a)1)(B))
3,000
(2/3rd of 9,000 nonseparate)(§1367(a)1)(B))
6,000
Add:
(1/3rd of 3,000) separate §1367(a)(1)(A)
1,000
(2/3rd of 3,000) separate §1367(a)(1)(A)
2,000
Basis (§1367(a)(1)(A) & (B))
7,000
Basis (§1367(a)(1)(A) & (B))
13,000
Less:
Tax-free Distribution (§1368(b)(1)/§1367(a)(2)(A))
5,000
Tax-free Distribution(§1368(b)(1)/§1367(a)(2)(A))
10,000
Remaining Basis
2,000
3,000
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