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Theodore, Alvin, and Simon are equal shareholders of Timeless Corp. (an S corporation). Simon wants to terminate the S election, but Theodore and Alvin disagree. Can Simon unilaterally elect to have the S election terminated? If not, what would Simon need to do to have the S election terminated?
In what circumstances could a calendar-year C corporation make an election on February 1, year 1, to be taxed as an S corporation in year 1 but not have the election effective until year 2?
JB Corporation is a C corporation owned 80 percent by Jacob and 20 percent by Bauer. Jacob would like JB to make an S election, but Bauer is opposed to the idea. Can JB elect to be taxed as an S corporation without Bauer’s consent? Explain.
Karen is the sole shareholder of a calendar-year-end C corporation she formed last year. If she elects S corporation status this year on February 20, when will the election become effective and why? What if she had made the election on March 20?
Super Corp. was organized under the laws of the state of Montana. It issued common voting stock and common nonvoting stock to its two shareholders. Is Super Corp. eligible to elect S corporation status? Why or why not?
How do the tax laws treat family members for purposes of limiting the number of owners an S corporation may have?
Why can’t large, publicly traded corporations be treated as S corporations?
What are the limitations on the number and type of shareholders an S corporation may have? How are these limitations different from restrictions on the number and type of shareholders C corporations or partnerships may have?
In general terms, how are C corporations different from and similar to S corporations?
Suppose you asked your favorite AI query tool “What types of assets held in a partnership are treated as hot assets for tax purposes?” and the AI tool responded as follows:
Carrie D’Lake, Reed A. Green, and Doug A. Divot share a passion for golf and decide to go into the golf club manufacturing business together. On January 2, 2024, D’Lake, Green, and Divot form the Slicenhook Partnership, a general partnership. Slicenhook’s main product will be a perimeter-weighted titanium driver with a patented graphite shaft. All three partners plan to actively participate in the business. The partners contribute the following property to form Slicenhook:
\r\nPartner Contribution
\r\nCarrie D’Lake Land, FMV $460,000
\r\nBasis $460,000, Mortgage $60,000
\r\nReed A. Green $400,000
\r\nDoug A. Divot $400,000
\r\nCarrie had recently acquired the land with the idea that she would contribute it to the newly formed partnership. The partners agree to share in profits and losses equally. Slicenhook elects a calendar year-end and the accrual method of accounting.
\r\nIn addition, Slicenhook received a $1,500,000 recourse loan from Big Bank at the time the contributions were made. Slicenhook uses the proceeds from the loan and the cash contributions to build a state-of-the-art manufacturing facility ($1,200,000), purchase equipment ($600,000), and produce inventory ($400,000). With the remaining cash, Slicenhook invests $45,000 in the stock of a privately owned graphite research company and retains $55,000 as working cash.
\r\nSlicenhook operates on a just-in-time inventory system, so it sells all inventory and collects all sales immediately. That means that at the end of the year, Slicenhook does not carry any inventory or accounts receivable balances. During 2024, Slicenhook has the following operating results:
\r\nSales $ 1,126,000
\r\nCost of goods sold 400,000
\r\nInterest income from tax-exempt bonds 900
\r\nQualified dividend income from stock 1,500
\r\nOperating expenses 126,000
\r\nDepreciation (tax)
\r\n§179 on equipment $39,000
\r\nEquipment 81,000
\r\nBuilding 24,000 144,000
\r\nInterest expense on debt 120,000
\r\nThe partnership is very successful in its first year. The success allows Slicenhook to use excess cash from operations to purchase $15,000 of tax-exempt bonds (you can see the interest income already reflected in the operating results). The partnership also makes a principal payment on its loan from Big Bank in the amount of $300,000 and a distribution of $100,000 to each of the partners on December 31, 2024.
\r\nThe partnership continues its success in 2025 with the following operating results:
\r\nSales $ 1,200,000
\r\nCost of goods sold 420,000
\r\nInterest income from tax-exempt bonds 900
\r\nQualified dividend income from stock 1,500
\r\nOperating expenses 132,000
\r\nDepreciation (tax)
\r\nEquipment $147,000
\r\nBuilding 30,000 177,000
\r\nInterest expense on debt 96,000
\r\nThe operating expenses include a $1,800 trucking fine that one of their drivers incurred for reckless driving and speeding and meals expense of $6,000. By the end of 2025, Reed has had a falling out with Carrie and Doug and has decided to leave the partnership. He has located a potential buyer for his partnership interest, Indie Ruff. Indie has agreed to purchase Reed’s interest in Slicenhook for $730,000 in cash and the assumption of Reed’s share of Slicenhook’s debt. Carrie and Doug, however, are not certain that admitting Indie to the partnership is such a good idea. They want to consider having Slicenhook liquidate Reed’s interest on January 1, 2026. As of January 1, 2026, Slicenhook has the following assets:
\r\nTax Basis FMV
\r\nCash $ 876,800 $ 876,800
\r\nInvestment - tax Exempts 15,000 18,000
\r\nInvestment Stock 45,000 45,000
\r\nEquipment - net of dep. 333,000 600,000
\r\nBuilding - net of dep. 1,146,000 1,440,000
\r\nLand 460,000 510,000
\r\nTotal $ 2,875,800 $ 3,489,800
\r\n\r\n
Carrie and Doug propose that Slicenhook distribute the following to Reed in complete liquidation of his partnership interest:
\r\nTax Basis FMV
\r\nCash $ 485,000 $ 485,000
\r\nInvestment Stock 45,000 45,000
\r\nEquipment - $200,000 cost, net of dep. 111,000 200,000
\r\nTotal $ 641,000 $ 730,000
\r\nSlicenhook has not purchased or sold any equipment since its original purchase just after formation.
\r\na. Determine each partner’s recognized gain or loss upon formation of Slicenhook.
\r\nb. What is each partner’s initial tax basis in Slicenhook on January 2, 2024?
\r\nc. Prepare Slicenhook’s opening tax basis balance sheet as of January 2, 2024.
\r\nd. Using the operating results, what are Slicenhook’s ordinary income and separately stated items for 2024 and 2025? What amount of Slicenhook’s income for each period would each of the partners report?
\r\ne. Using the information provided, prepare Slicenhook’s page 1 and Schedule K to be included with its Form 1065 for 2024. Also, prepare a Schedule K-1 for Carrie.
\r\nf. What are Carrie’s, Reed’s, and Doug’s outside bases in their partnership interest at the end of 2024 and 2025?
\r\ng. If Reed sells his interest in Slicenhook to Indie Ruff, what are the amount and character of his recognized gain or loss? What is Indie’s outside basis in the partnership interest?
\r\nh. What is Indie’s inside basis in Slicenhook? What effect would a §754 election have on Indie’s inside basis?
\r\ni. If Slicenhook distributes the assets proposed by Carrie and Doug in complete liquidation of Reed’s partnership interest, what are the amount and character of Reed’s recognized gain or loss? What is Reed’s basis in the distributed assets?
\r\nj. Compare and contrast Reed’s options for terminating his partnership interest. Assume that Reed’s marginal tax rate is 35 percent and his capital gains rate is 15 percent.
\r\n
Paolo is a 50 percent partner in the Capri Partnership and has decided to terminate his partnership interest. Paolo is considering two options as potential exit strategies. The first is to sell his partnership interest to the two remaining 25 percent partners, Giuseppe and Isabella, for $105,000 cash and the assumption of Paolo’s share of Capri’s liabilities. Under this option, Giuseppe and Isabella would each pay $52,500 for half of Paolo’s interest. The second option is to have Capri liquidate Paolo’s partnership interest with a proportionate distribution of the partnership assets. Paolo’s basis in his partnership interest is $110,000, including Paolo’s share of Capri’s liabilities. Capri reports the following balance sheet as of the termination date:
\r\nAssets Tax Basis FMV
\r\nCash $ 80,000 $ 80,000
\r\nReceivables 40,000 40,000
\r\nInventory 50,000 80,000
\r\nLand 50,000 60,000
\r\nTotals $ 220,000 $ 260,000
\r\nLiabilities and capital
\r\nLiabilities $ 50,000
\r\nCapital – Paolo 85,000
\r\n– Giuseppe 42,500
\r\n– Isabella 42,500
\r\nTotals $ 220,000
\r\na. If Paolo sells his partnership interest to Giuseppe and Isabella for $105,000, what are the amount and character of Paolo’s recognized gain or loss?
\r\nb. Giuseppe and Isabella each have a basis in Capri of $55,000 before any purchase of Paolo’s interest. What are Giuseppe’s and Isabella’s bases in their partnership interests following the purchase of Paolo’s interest?
\r\nc. If Capri liquidates Paolo’s partnership interest with a proportionate distribution of the partnership assets ($25,000 deemed cash from debt relief, $15,000 of actual cash, and half of the remaining assets), what are the amount and character of Paolo’s recognized gain or loss?
\r\nd. If Capri liquidates Paolo’s interest, what is Paolo’s basis in the distributed assets?
\r\ne. Compare and contrast Paolo’s options for terminating his partnership interest. Assume that Paolo’s marginal tax rate is 35 percent and his capital gains rate is 15 percent.
\r\n
61. Joaquin is a 30 percent partner in the SBD Partnership, a calendar-year-end entity. As of the end of this year, Joaquin has an outside basis in his interest in SBD of $188,000, which includes his share of the $60,000 of partnership liabilities. On December 31, SBD makes a proportionate distribution of the following assets to Joaquin:
\r\nTax BasisFMV
\r\nCash $ 40,000 $40,000
\r\nInventory 55,000 65,000
\r\nLand 30,000 45,000
\r\nTotals $ 125,000 $150,000
\r\na. What are the tax consequences (amount and character of recognized gain or loss, basis in distributed assets) of the distribution to Joaquin if the distribution is an operating distribution?
\r\nb. What are the tax consequences (amount and character of recognized gain or loss, basis in distributed assets) of the distribution to Joaquin if the distribution is a liquidating distribution?
\r\nc. Compare and contrast the results from parts (a) and (b).
\r\n
Lauren’s basis in Driftwood Partnership is $510,000. Driftwood distributes all the land to Lauren in complete liquidation of her partnership interest. The partnership reports the following balance sheet just before the distribution:
\r\nAssets: Tax Basis FMV
\r\nCash $ 370,000 $ 370,000
\r\nStock (investment) 910,000 370,000
\r\nLand 250,000 370,000
\r\nTotals $1, 530,000 $ 1,110,000
\r\nLiabilities and capital:
\r\nCapital- Esteban $ 510,000
\r\n- Kylie 510,000
\r\n- Lauren 510,000
\r\nTotals $ 1,530,000
\r\na. What are the amount and character of Lauren’s recognized gain or loss?
\r\nb. If Driftwood does not have a §754 election in place, what is the amount of the special basis adjustment, if any?
\r\n
Helen’s basis in Haywood Partnership is $270,000. Haywood distributes all the land to Helen in complete liquidation of her partnership interest. The partnership reports the following balance sheet just before the distribution:
\r\nAssets: Tax Basis FMV
\r\nCash $ 220,000 $ 220,000
\r\nStock (investment) 480,000 220,000
\r\nLand 110,000 220,000
\r\nTotals $ 810,000 $ 660,000
\r\nLiabilities and capital:
\r\nCapital- Charles $ 270,000
\r\n- Esther 270,000
\r\n- Helen 270,000
\r\nTotals $ 810,000
\r\na. What are the amount and character of Helen’s recognized gain or loss? What is the effect on the partnership assets?
\r\nb. If Haywood has a §754 election in place, what is the amount of the special basis adjustment?
\r\n
Erin’s basis in her Kiybron Partnership interest is $3,300. Erin receives a distribution of $2,200 cash from Kiybron in complete liquidation of her interest. Kiybron is an equal partnership with the following balance sheet:
\r\nAssets: Tax Basis FMV
\r\nCash $ 2,200 $ 2,200
\r\nStock (investment) 1,100 2,200
\r\nLand 6,600 2,200
\r\nTotals $ 9,900 $ 6,600
\r\nLiabilities and capital:
\r\nCapital- Erin 3,300
\r\n- Carl 3,300
\r\n- Grace 3,300
\r\nTotals $ 9,900
\r\na. What are the amount and character of Erin’s recognized gain or loss? What is the effect on the partnership assets?
\r\nb. If Kiybron has a §754 election in place, what is the amount of the special basis adjustment?
\r\n
Cliff’s basis in his Aero Partnership interest is $11,000. Cliff receives a distribution of $22,000 cash from Aero in complete liquidation of his interest. Aero is an equal partnership with the following balance sheet:
\r\nAssets: Tax Basis FMV
\r\nCash $ 22,000 $ 22,000
\r\nInvestment 8,800 8,800
\r\nLand 2,200 35,200
\r\nTotals $ 33,000 $ 66,000
\r\nLiabilities and capital:
\r\nCapital- Chris 11,000
\r\n- Cliff 11,000
\r\n- Cooper 11,000
\r\nTotals $ 33,000
\r\na. What are the amount and character of Cliff’s recognized gain or loss? What is the effect on the partnership assets?
\r\nb. If Aero has a §754 election in place, what is the amount of the special basis adjustment?
\r\n
Elaine pays $40,000 cash for Martha’s one-third interest in Lakewood Partnership. Just prior to the sale, Martha’s basis in Lakewood is $140,000. Lakewood reports the following balance sheet:
\r\nAssets: Tax Basis FMV
\r\nCash $ 50,000 $ 50,000
\r\nLand 370,000 70,000
\r\nTotals $ 420,000 $ 120,000
\r\nLiabilities and capital:
\r\nCapital- Mary $140,000
\r\n- Martha 140,000
\r\n- Margaret 140,000
\r\nTotals $ 420,000
\r\nAssume the land had been purchased several years ago and the partnership does not have a §754 election in place.
\r\na. What are the amount and character of Martha’s recognized gain or loss on the sale?
\r\nb. What is Elaine’s basis in her partnership interest?
\r\nc. If Lakewood were to sell the land for $70,000 shortly after the sale of Martha’s partnership interest, how much gain or loss would Elaine recognize?
\r\n
Fatima pays $120,000 cash for Brittany’s one-third interest in the Westlake Partnership. Just prior to the sale, Brittany’s basis in Westlake is $96,000. Westlake reports the following balance sheet:
\r\nAssets: Tax Basis FMV
\r\nCash $ 96,000 $ 96,000
\r\nLand 192,000 264,000
\r\nTotals $ 288,000 $ 360,000
\r\nLiabilities and capital:
\r\nCapital- Amy 96,000
\r\n- Brittany 96,000
\r\n- Ben 96,000
\r\nTotals $ 288,000
\r\na. What are the amount and character of Brittany’s recognized gain or loss on the sale?
\r\nb. What is Fatima’s basis in her partnership interest? What is Fatima’s inside basis?
\r\nc. If Westlake were to sell the land for $264,000 shortly after the sale of Brittany’s partnership interest, how much gain or loss would the partnership recognize?
\r\nd. How much gain or loss would Fatima recognize if the land were sold for 264,000?
\r\ne. Suppose Westlake has a §754 election in place. What is Fatima’s special basis adjustment? How much gain or loss would Fatima recognize on a subsequent sale of the land in this situation?
\r\n
Bella Partnership is an equal partnership in which each of the partners has a basis in their partnership interest of $10,000. Bella reports the following balance sheet:
\r\nAssets: Tax Basis FMV
\r\nInventory $ 20,000 $ 30,000
\r\nLand 10,000 15,000
\r\nTotals $ 30,000 $ 45,000
\r\nLiabilities and capital:
\r\nCapital- Toby 10,000
\r\n- Kaelin 10,000
\r\n- Andrew 10,000
\r\nTotals $ 30,000
\r\na. Identify the hot assets if Toby decides to sell his partnership interest. Are these assets “hot” for purposes of distributions?
\r\nb. If Bella distributes the land to Toby in complete liquidation of his partnership interest, what tax issues should be considered?
\r\n
Danner Inc. has a $395,000 capital loss carryover that will expire at the end of the current tax year if it is not used. Also, Danner Inc. has been a general partner in the Talisman Partnership for three years and plans to end its involvement with the partnership by receiving a liquidating distribution. Initially, all parties agreed that Danner Inc.’s liquidating distribution would include $50,000 in cash and land with a fair market value of $400,000 (tax basis of $120,000). Immediately before the distribution, Danner’s basis in its partnership interest is $150,000, which includes its $100,000 share of partnership debt. Talisman Partnership does not hold any hot assets.
\r\na. What are the amount and character of any gain or loss to Danner Inc.?
\r\nb. What is Danner Inc.’s basis in the land?
\r\nc. Can you suggest a course of action that would help Danner Inc. avoid the expiration of its capital loss carryover?
\r\n
Markell’s basis in the Markit Partnership is $58,000. In a proportionate liquidating distribution, Markell receives the following assets:
\r\nTax BasisFMV
\r\nCash $8,000 $8,000
\r\nLand A 20,000 45,000
\r\nLand B 20,000 25,000
\r\na. How much gain or loss will Markell recognize on the distribution? What is the character of any recognized gain or loss?
\r\nb. What is Markell’s basis in the distributed assets?
\r\n
] Megan and Matthew are equal partners in the J & J Partnership (calendar-year-end entity). On January 1 of the current year, they decide to liquidate the partnership. Megan’s basis in her partnership interest is $100,000, and Matthew’s is $35,000. The two partners receive identical distributions, with each receiving the following assets:
\r\nTax BasisFMV
\r\nCash $ 30,000 $ 30,000
\r\nInventory 5,000 6,000
\r\nLand 500 1,000
\r\nTotals $ 35,500 $37,000
\r\na. What are the amount and character of Megan’s recognized gain or loss?
\r\nb. What is Megan’s basis in the distributed assets?
\r\nc. What are the amount and character of Matthew’s recognized gain or loss?
\r\nd. What is Matthew’s basis in the distributed assets?
\r\n
Mikaere’s basis in the Jimsoo Partnership is $53,000. In a proportionate liquidating distribution, Mikaere receives cash of $7,000 and two capital assets: (1) Land A with a fair market value of $20,000 and a basis to Jimsoo of $16,000 and (2) Land B with a fair market value of $10,000 and a basis to Jimsoo of $16,000. Jimsoo has no liabilities.
\r\na. How much gain or loss will Mikaere recognize on the distribution? What is the character of any recognized gain or loss?
\r\nb. What is Mikaere’s basis in the distributed assets?
\r\nc. If the two parcels of land had been inventory to Jimsoo, what are the tax consequences to Mikaere (amount and character of gain or loss and basis in distributed assets)?
\r\n
AJ is a 30 percent partner in the Trane Partnership, a calendar-year-end entity. On January 1, AJ has an outside basis in his interest in Trane of $73,000, which includes his share of the $50,000 of partnership liabilities. Trane generates $42,000 of income during the year and does not make any changes to its liabilities. On December 31, Trane makes a proportionate distribution of the following assets to AJ to terminate his partnership interest:
\r\nTax BasisFMV
\r\nInventory $ 55,000 $ 65,000
\r\nLand 30,000 25,000
\r\nTotals $ 85,000 $90,000
\r\na. What are the tax consequences (gain or loss, basis adjustments) of the distribution to Trane?
\r\nb. What are the amount and character of any recognized gain or loss to AJ?
\r\nc. What is AJ’s basis in the distributed assets?
\r\nd. If AJ sells the inventory four years after the distribution for $70,000, what are the amount and character of his recognized gain or loss?
\r\n
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