[Anonymous]

I cannot understand this concept. Here is the question I am studying:

Rose Corporation, a calendar year corporation, had accumulated earnings and profits of $40,000 as of January 1, 2014. However, for the first six months of 2014 Rose Corporation had an operating loss of $36,000, and finished the year with a total net operating loss for tax year 2014 of $55,000. Rose Corporation distributed $15,000 to its shareholders on July 1, 2014. Which of the following is correct?

A. The entire distribution of $15,000 is taxable as a dividend.

B. The entire distribution is not taxable.

C. The part of the distribution which is taxable as a dividend is $12,500.

D. The part of the distribution which is taxable as a dividend is $14,000.

Then answer is C. How can you distribute to shareholders if a company already has a loss? In my head, the company doesn’t have any money. So where is the distrubution coming from? Is this a separate account? I’m lost.

[Anonymous]

having loss and not having cash are two completely different things. I don't get 12500 though, where did it come from? Was there an explanation?

[Missy]

You can have plenty of money in the bank but still have a net operating loss. Think of the items on a P&L that are expenses but do not involve an outlay of cash. For example, depreciation. It is an expense and will reduce your income but you're not actually paying anything for it.

Licensed Massachusetts Non Reporting CPA since 2012
Finance/Admin/HR Manager

[Anonymous]

Here is the explanation Ana and Mia:

Explanation:

If the corporation has no current year earnings and profits, figure the use of accumulated earnings and profits as follows.

If the current year earnings and profits balance is negative, prorate the negative balance to the date of each distribution made during the year.

Figure the available accumulated earnings and profits balance on the date of each distribution by subtracting the prorated amount of current year earnings and profits from the accumulated balance.

Treat each distribution as a distribution of these adjusted accumulated earnings and profits.

If adjusted accumulated earnings and profits are reduced to zero, the remaining distributions are applied against and reduce the adjusted basis of the stock in the hands of the shareholders. To the extent that the balance is more than the adjusted basis of the stock, it is treated as a gain from the sale or exchange of property.

Since the current year earnings and profits must be prorated to the date of each distribution the taxable portion of the distribution is $12,500, calculated as follows. Rose Corporation had accumulated earnings and profits on January 1, 2014 of $40,000. The negative current year earnings and profits for the year were $55,000, which is prorated for the distribution which occurred half way through the year. The prorated amount equals $27,500 ($55,000 x 50%), which is then subtracted from accumulated E & P, resulting in $12,500 ($40,000 – $27,500) of accumulated E&P remaining before the distribution. This results in a taxable dividend of $12,500. The remaining $2,500 of the distribution is considered a reduction in stock basis or gain from the sale of stock.

[MaLoTu]

I would have guessed that since they had 40k accumulated P&E that the entire 15k would be taxable as a dividend… I also do not understand the 12,500.

I believe that P&E (IRC) is like Retained Earnings (GAAP)

[MaLoTu]

Ah, thanks Donica!

[Anonymous]

that's tricky, I would never figure it out

Thanks for posting!

[Author]

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