Question

Jeff, a 52% owner of an S corporation, has a stock basis of zero at the beginning of the year. Jeff's basis in a $10,000 loan made to the corporation and evidenced by a corporate note has been reduced to zero by pass-through losses. During the year, his net share of the corporate taxable income is $11,000. At the end of the year, Jeff receives a $15,000 cash distribution.

Discuss the tax effects of the distribution.

Answer 1

See below

Step-by-step explanation:

In order to restore any reduction in loan basis, only the net increase is applied in line with section 1367(b)(Adjustment to basis of stocks of shareholders).

What this means is that there is no net increase regarding the information given above I.e ($11,000 - $15,000).

We can safely conclude that there is $11,000 tax free income since the stock basis has been increased by $11,000. There is also a $4,000 capital gain.