The Serenity Corporation distributes $200,000 in cash to its shareholder during 2016.Accumulated earnings and profits are $80,000 as of January 1,2016.Current earnings and profits for 2016 are $84,000.Jonas,the sole shareholder of Serenity Corporation,has a basis of $48,000 in his stock.What is the tax effect of the distribution for Jonas?
A)Jonas will recognize ordinary income of $164,000 and a capital gain of $36,000.
B)Jonas will recognize ordinary income of $84,000, capital gain of $80,000 and a tax-free recovery of capital of $36,000.
C)Jonas will recognize ordinary income of $164,000 and a tax-free return of capital of $36,000.
D)Jonas will recognize ordinary income of $164,000 and a capital loss of $12,000.
E)Jonas will recognize ordinary income of $200,000 and a capital loss of $12,000.

Question

Quizplus · Accepted Answer

The distribution is first applied to current and accumulated earnings and profits, totaling $164,000 ($80,000 + $84,000), which is recognized as ordinary income. The remaining $36,000 is a tax-free return of capital, reducing Jonas's stock basis to zero.

The Serenity Corporation Distributes $200,000 in Cash to Its Shareholder