Question

1. Which one of the following statements about property distributions is false?

a.When the basis of distributed property is greater than its fair market value, the distributing corporation does not recognize loss.

b.The amount of a distribution received by a shareholder is measured by using the property's fair market value.

c.When the basis of distributed property is less than its fair market value, the distributing corporation recognizes gain.

d.When the basis of distributed property is greater than its fair market value, a deficit may be created in E & P.

e.All of these statements are true.

2. If a stock dividend is taxable, the shareholder's basis in the newly received shares is equal to the fair market value of the shares received in the distribution.

True

False

3. Pink Corporation declares a nontaxable dividend payable in rights to subscribe to common stock. Each right entitles the holder to purchase one share of stock for $25. One right is issued for every two shares of stock owned. Jocelyn owns 100 shares of stock in Pink, which she purchased three years ago for $3,000. At the time of the distribution, the value of the stock is $45 per share and the value of the rights is $2 per share. Jocelyn receives 50 rights. She exercises 25 rights and sells the remaining 25 rights three months later for $2.50 per right.

a.If Jocelyn does not allocate a part of the basis of her original stock to the rights, her basis in the new stock is zero.

b.Sale of the rights produces ordinary income to Jocelyn of $62.50.

c.Jocelyn must allocate a part of the basis of her original stock in Pink to the rights.

d.If Jocelyn does not allocate a part of the basis of her original stock to the rights, her basis in the new stock is $625.

e.None of these choices are correct.

Answer 1

Part 1

Option D

When the basis of distributed property is greater than its fair market value, a deficit may be created in E & P.

When the basis of distributed property is greater than its fair market value, a deficit is is apportioned to partners' accounts.

Part 2

True

The rules for determining the taxability of stock dividends and stock rights are the same. If the stock dividends are taxable, the income of recipient is the fair market value of the shares received. The fair market value thus becomes the shareholder’s or distributee's basis in the shares received as a dividend.

Part 3

Option D

If Jocelyn does not allocate a part of the basis of her original stock to the rights, her basis in the new stock is $625

Because if Jocelyn does not allocate a part of the basis of her original stock to the rights, her basis in the new stock is zero.