Exam 6: Corporations: Redemptions and Liquidations

The partial liquidation rules provide a unique opportunity for a corporation to contract its business enterprises in a manner that produces favorable tax results for its shareholders. Discuss the requirements for a partial liquidation and the resulting tax consequences to the shareholders.

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Question 1

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A distribution qualifies as a partial liquidation when it (1) is not essentially equivalent to a dividend and (2) is both pursuant to a plan and made within the plan year or within the succeeding taxable year. A distribution is not essentially equivalent to a dividend if it results in a genuine contraction of the corporation's business or it satisfies the termination of a business test. The genuine contraction of a corporate business requirement is subjective and should be relied upon only after receiving a favorable IRS ruling. The termination of a business test provides an objective safe harbor rule for meeting the not essentially equivalent to a dividend requirement. Under that test, the corporation must satisfy the following requirements:
· The corporation has two or more qualified trades or businesses (i.e., businesses that have been conducted for the 5-year period ending on the date of the distribution and the businesses were not acquired in a taxable transaction during such 5-year period).
· The distribution consists of the assets of a qualified trade or business or the proceeds from the sale of such assets.
· The corporation is actively engaged in the conduct of a qualified trade or business immediately after the distribution.
If there is a stock redemption pursuant to a partial liquidation, the redemption can be pro rata with respect to the shareholders. There is no requirement for an actual redemption of stock in the case of a pro rata distribution.
A partial liquidation results in sale or exchange treatment for noncorporate shareholders. For corporate shareholders, distributions must be tested under the other qualifying stock redemption provisions. Recall, however, that corporate shareholders typically prefer dividend over sale or exchange treatment (due to the availability of the dividends received deduction).

Finch Corporation distributes property (basis of $140,000, fair market value of $200,000) to a shareholder in a distribution that is a qualifying stock redemption. The property is subject to a liability of $90,000, which the shareholder assumes. The basis of the property to the shareholder is:

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Question 2

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The gross estate of April, decedent, includes stock in Brown Corporation and Parrot Corporation valued at $700,000 and $2.3 million, respectively. April's adjusted gross estate is $7.5 million. At the time of her death in 2011, April owned 24% of the Brown stock and 40% of the Parrot stock. Immediate members of April's family own the remaining shares of both Brown and Parrot. Those individuals are also the sole beneficiaries of April's estate. Death taxes and funeral and administration expenses for April's estate are $700,000. April had a basis of $130,000 in the Brown stock and $290,000 in the Parrot stock. Brown Corporation (E & P of $900,000) distributed land worth $700,000 (basis of $650,000) to April's estate in redemption of all of the Brown stock. Which of the following is a correct statement regarding the tax consequences of this redemption?

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Question 3

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Currently, Brown Corporation (E & P of $800,000) has 1,000 shares of common stock outstanding. Pat owns 200 shares. His wife owns 400 shares, his daughter owns 100 shares, and his father owns 300 shares. Two years ago, Pat transferred $30,000 to Brown Corporation in exchange for 100 newly issued shares of nonvoting preferred stock. In the current year, Brown Corporation redeems Pat's preferred stock for $50,000, its fair market value. With respect to the distribution in redemption of the preferred stock:

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Question 4

Connie sold 200 shares of § 306 stock (basis of $10,000) in Blackbird Corporation to Larry (an unrelated individual) for $30,000. When the § 306 stock was issued to Connie, the stock had a value of $30,000, and Blackbird had E & P of $500,000. At the time the § 306 stock is sold, Blackbird's E & P is $550,000. At the time of the sale, Connie owned 750 shares of common stock (basis of $65,000) in Blackbird. With respect to the sale of the § 306 stock by Connie:

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Question 5

Section 332 does not apply to a parent-subsidiary liquidation if the subsidiary corporation is insolvent on the date of the liquidation.

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Question 6

Ember Corporation has 500 shares of stock outstanding: Zoe owns 170 shares, Leticia owns 95 shares, and Samuel owns 55 shares. Sage Partnership owns the other 180 shares in Ember Corporation. Zoe, Leticia, and Samuel, all unrelated, are equal partners of the Sage Partnership. In applying the stock attribution rules under § 318:

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Question 7

A subsidiary is liquidated pursuant to § 332. The parent has held 100% of the stock in the subsidiary for the past ten years. The subsidiary has E & P of $600,000 at the time of liquidation. The subsidiary's E & P disappears as a result of the liquidation.

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Question 8

The stock of Cardinal Corporation is held as follows: 90% by Blue Jay Corporation (basis of $500,000) and 10% by Samuel (basis of $70,000). Cardinal Corporation is liquidated on October 20, 2011, pursuant to a plan adopted on January 7, 2011. Pursuant to the liquidation, Cardinal Corporation distributed Asset A (basis of $450,000, fair market value of $720,000) to Blue Jay, and Asset B (basis of $45,000, fair market value of $80,000) to Samuel. No election is made under § 338. With respect to the liquidation of Cardinal:

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Question 9

Sparrow Corporation purchased 90% of the stock of Warbler Corporation eight years ago for $1 million. In the current year, Sparrow liquidates Warbler and acquires assets with a basis to Warbler of $850,000 (fair market value of $1.2 million). Sparrow will have a basis in the assets of $850,000 (Warbler's basis in the assets), and a recognized loss of $150,000 ($1 million basis in Warbler stock - $850,000 carryover basis in assets).

(True/False)

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Question 10

Canary Corporation has 1,000 shares of stock outstanding. It redeems in a qualifying stock redemption 350 shares for $400,000 at a time when it has paid-in capital of $100,000 and E & P of $1 million. What would be the charge to Canary's E & P as a result of the redemption?

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Question 11

Cardinal Corporation has 1,000 shares of common stock outstanding. John owns 400 of the shares, John's father owns 300 shares, John's daughter owns 200 shares, and Redbird Corporation owns 100 shares. John owns 70% of the stock in Redbird Corporation. How many shares is John deemed to own in Cardinal Corporation under the attribution rules of § 318?

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Question 12

Noncorporate shareholders generally prefer a nonqualified stock redemption over a qualifying stock redemption due to the availability of the dividends received deduction.

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Question 13

Ali is in the 35% tax bracket. He acquired 1,000 shares of stock in Cardinal Corporation seven years ago for $100 a share. In the current year, Cardinal Corporation (E & P of $1 million) redeems all of his shares for $300,000. What are the tax consequences to Ali if:

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Question 14

On April 7, 2010, Crow Corporation acquired land in a transaction that qualified under § 351. The land had a basis of $480,000 to the contributing shareholder and a fair market value of $350,000. Assume that the shareholder also transferred equipment (basis of $50,000, fair market value of $200,000) in the same § 351 exchange. Crow Corporation adopted a plan of liquidation on October 6, 2011. On December 8, 2011, Crow Corporation distributes the land to Ali, a shareholder who owns 20% of the stock in Crow Corporation. The land's fair market value was $300,000 on the date of the distribution to Ali. Crow Corporation acquired the land to use as security for a loan it had hoped to obtain from a local bank. In negotiating with the bank for a loan, the bank required the additional capital investment as a condition of its making a loan to Crow Corporation. How much loss can Crow Corporation recognize on the distribution of the land?

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Question 15

The adjusted gross estate of Keith, decedent, is $6 million. Included in the gross estate is stock in Gold Corporation (E & P of $750,000), a closely held corporation, valued at $2.4 million as of the date of Keith's death in 2011. Keith had acquired the stock twelve years ago at a cost of $420,000. Death taxes and funeral and administration expenses for Keith's estate are $1.2 million. Gold Corporation redeems one-half of the stock from Keith's estate in a § 303 redemption to pay death taxes using property with a fair market value of $1.2 million (adjusted basis of $950,000). Which of the following is a correct statement regarding the tax consequences of this redemption?

(Multiple Choice)

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Question 16

Egret Corporation has manufactured recreational vehicles for 8 years. In addition, for the last 3 years, Egret has operated a separate division that sells bicycle equipment. Francis, an individual, and Loon Corporation each acquired 500 shares of stock in Egret (basis of $2,000 per share) 10 years ago. In the current year, the bicycle equipment division is entirely destroyed by fire. Egret Corporation decides to discontinue the business and distributes pro rata all of the $5 million of insurance proceeds collected as a result of the fire to Francis and Loon Corporation in redemption of 200 shares of stock from each shareholder. Determine the tax consequences of the stock redemption to Egret Corporation (E & P of $6 million), to Francis, and to Loon Corporation.

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Question 17

In the current year, Dove Corporation (E & P of $1 million) distributes all of its property in a complete liquidation. Alexandra, a shareholder, receives land having a fair market value of $200,000. Dove Corporation had purchased the land as an investment three years ago for $150,000, and the land was distributed subject to a $100,000 liability. Alexandra took the land subject to the $100,000 liability. What is Alexandra's basis in the land?

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Question 18

Tammy forms White Corporation in a transaction qualifying under § 351. In that transaction, Tammy transferred cash and equipment in exchange for White Corporation common (1,000 shares) and preferred (200 shares) stock. The preferred stock is § 306 stock for Tammy.

(True/False)

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Question 19

Describe the requirements for and tax consequences of a § 338 election.

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Question 20

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The partial liquidation rules provide a unique opportunity for a corporation to contract its business enterprises in a manner that produces favorable tax results for its shareholders. Discuss the requirements for a partial liquidation and the resulting tax consequences to the shareholders.

Finch Corporation distributes property (basis of $140,000, fair market value of $200,000) to a shareholder in a distribution that is a qualifying stock redemption. The property is subject to a liability of $90,000, which the shareholder assumes. The basis of the property to the shareholder is:

Section 332 does not apply to a parent-subsidiary liquidation if the subsidiary corporation is insolvent on the date of the liquidation.

A subsidiary is liquidated pursuant to § 332. The parent has held 100% of the stock in the subsidiary for the past ten years. The subsidiary has E & P of $600,000 at the time of liquidation. The subsidiary's E & P disappears as a result of the liquidation.

Canary Corporation has 1,000 shares of stock outstanding. It redeems in a qualifying stock redemption 350 shares for $400,000 at a time when it has paid-in capital of $100,000 and E & P of $1 million. What would be the charge to Canary's E & P as a result of the redemption?

Noncorporate shareholders generally prefer a nonqualified stock redemption over a qualifying stock redemption due to the availability of the dividends received deduction.

Ali is in the 35% tax bracket. He acquired 1,000 shares of stock in Cardinal Corporation seven years ago for $100 a share. In the current year, Cardinal Corporation (E & P of $1 million) redeems all of his shares for $300,000. What are the tax consequences to Ali if:

Tammy forms White Corporation in a transaction qualifying under § 351. In that transaction, Tammy transferred cash and equipment in exchange for White Corporation common (1,000 shares) and preferred (200 shares) stock. The preferred stock is § 306 stock for Tammy.

Describe the requirements for and tax consequences of a § 338 election.

Understanding and Working With the Federal Tax Law

Corporations: Introduction and Operating Rules

Corporations: Special Situations

Corporations: Organization and Capital Structure

Corporations: Earnings Profits and Dividend Distributions

Corporations: Reorganizations

Consolidated Tax Returns

Taxation of International Transactions

Partnerships: Formation, Operation, and Basis

Partnerships: Distributions, Transfer of Interests, and Terminations

S: Corporations

Comparative Forms of Doing Business

Taxes on the Financial Statements

Exempt Entities

Multistate Corporate Taxation

Tax Practice and Ethics

The Federal Gift and Estate Taxes

Family Tax Planning

Income Taxation of Trusts and Estates

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