An S Corporation has four shareholders. The corporation has land with a fair mar

Question

An S Corporation has four shareholders. The corporation has land with a fair market value of $100,000 and a basis of $20,000. The corporation has accumulated E&P of $ 16,000.The corporation distributes the land in-kind to the four shareholders. Each shareholder’s basis in the corporation is $1,000. Assume the corporation has always been an S Corporation, Assume also that the AAA balance prior to the property distribution is zero. a. Each shareholder has a gain of $20,000. b. Each shareholder has a dividend of $4,000. c. Each shareholder has a gain of $20,000 and a dividend of $4,000. d. Each shareholder has no gain or loss until the property is sold. e. None of the above.

Please explain why you choose this answer. Thank you.

Explanation / Answer

The Corporation has E&P = $20,000

Each shareholder receives property with FMV $25,000 and basis $5,000

So each shareholder will have $ 25,000 gain.

Distribution to the extent of E& P balance is treated as dividend income.

Out of the gain dividend treatment for each share holder will be $4000 as only (4*$4000=) $16,000 total E&P is available. Out of the remaining $1000 ( amount upto the basis of each shareholder ) will be treated as tax free return of capital and remaining $20,000 will be treated as Capital gain.

So answer c. is correct.

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