632 MODULE 36 TAXES: CORPORATE

expenditures) can be deducted by an S corporation. An-

swer (a) is incorrect because foreign income taxes. must be
separately passed through to shareholders so that the share-
holders can individually elect to treat the payment of foreign
income taxes as a deduction or as a credit. Answer (b) is
incorrect because a net Sec. 1231 loss must be separately
passed through to shareholders so that the Sec. 1231 netting
process can take place at the shareholder level. Answer (c)
is incorrect because investment interest expense must be
separately passed through to shareholders so the deduction
limitation (i.e., limited to net investment income) can be
applied at the shareholder level.
148. (d) The requirement is to determine the correct
statement regarding an S corporation's Accumulated Ad-
justments Account (AAA). An S corporation that has accu-
mulated earnings and profits must maintain an AAA. The
AAA represents the cumulative balance of all items of the
undistributed net income and deductions for S corporation
years beginning after 1982. The AAA is generally increased
by all income items and is decreased by distributions and all
loss and deduction items except no adjustment is made for
tax-exempt income and related expenses, and no adjustment
is made for federal income taxes attributable to a taxable
year in which the corporation was a C corporation. The
payment of federal income taxes attributable to a C corpora-
tion year would decrease an S corporation's accumulated
. earnings and profits (AEP). Note that the amounts repre-
s nings and profits accumulated in C corpo- An S corporation must generally have only one class of
e ration years that have never been taxed to shareholders. A stock, be a domestic corporation, and confine shareholders
n positive AAA balance represents income from S corporation to individuals, estates, and certain trusts. An S corporation
t years that has already been taxed to shareholders but not yet need not be a member of a controlled group.
e distributed. An S corporation will-not generate any earnings
d and profits for taxable years beginning after 1982. 153. (b) The requirement is to determine the amount of
i loss from an S corporation that can be deducted by each of
n 149. (b) The requirement is to determine the due. date of two equal shareholders. An S corporation loss is passed
t a calendar-year S corporation's tax return. An S corporation through to shareholders and is deductible to the extent of a
h must file its federal income tax return (Form 1120-S) by the shareholder's basis for stock plus the basis for any d~bt
e 15th day of the third month following the close of its taxable owed the shareholder by the corporation. Here, each share-
A year. Thus, a calendar-year S corporation must file its tax holder's allocated loss of $45,000 ($90,000 + 2) is deducti-
A return by March 15, if an automatic six-month extension of ble to the extent of stock basis of $5,000 plus debt basis of
A time is not requested. $15,000, or $20,000. The remainder of the loss ($25,000 for
each shareholder) can be carried forward indefinitely by
150. (c) The requirement is to determine the item for
d each shareholder and deducted when there is basis to absorb
which an S corporation is not permitted a deduction. Com- it. .
i pensation of officers, interest paid to nonshareholders, and
f employee benefits for nonshareholders are deductible by -an I. Corporate Reorganizations
f S corporation in computing its ordinary income or loss.
e 154. (b) The requirement is to determine the correct
However, charitable contributions, since they are subject to statement regarding King Corp.'s acquisition of 90% of Jax-
r percentage limitations at the shareholder- level, must be sepa-
f son Corp.'s voting common stock solely in exchange for
rately stated and are not deductible in computing an S corpo- 50% of King Corp.' s voting common stock. The acquisition
r ration's ordinary income or loss.
o by one corporation, in exchange solely for part of its voting
m 151. (d) For tax years beginning after December 31; stock, of stock of another corporation qualifies as a tax-free
2004, an S corporation may have as many as 100 sharehold- type B reorganization if immediately after the acquisition,
A ers. However, an S corporation cannot have both common the acquiring corporation is in control of the acguired corpo-
E and preferred stock outstanding because an S corporation is ration. The term control means the ownership of at least
P limited to a single class of stock. Similarly, a partnership is 80% of the acquired corporation's stock. Since King Corp.
. not permitted to be a shareholder in an S corporation be- will use solely its voting stock to acquire 90% of Jaxson
A cause all S corporation shareholders must be individuals, Corp. the acquisition will qualify as a tax-free type B reor-
estates, or certain trusts. Additionally, an S corporation can- ganization. Answer (c) is incorrect because there is no re-
p not have a nonresident alien as a shareholder. quirement concerning the minimum percentage of King
o Corp. stock that must be used. Answer (d) is incorrect be-
152. (a) The requirement is to determine which is not a' cause a type B reorganization involves the acquisition.of
s
requirement for a corporation to elect S corporation status. stock, not assets.
it
i 155. (a) The requirement is to determine whether a quali-
v fying reorganization is tax-free to the corporations and their
e shareholders. Corporate reorganizations are generally non-
A taxable. As a result, a corporation will not recognize gain or
E loss on the transfer of its assets, and shareholders do not
P recognize gain or loss when they exchange stock and securi-
b ties in parties to the reorganization. Here, Ace and Bate
a combine and form Carr, the only surviving corporation.
l This qualifies as a consolidation (Type A reorganization)
- and is tax-free to Ace and Bate on the transfer of their assets
to Carr, and also is tax-free to the shareholders when they
a exchange their Ace and Bate stock for Carr stock. Similarly,
n the reorganization is tax-free to Carr when it issues its shares
c to acquire the Ace and Bate assets.
e
r 156. (c) The requirement is to determine whether the
e statements are applicable to type B reorganizations. In a
p type B reorganization, the acquiring corporation must use
r solely voting stock to acquire control of the target corpora-
e tion immediately after the acquisition. The stock that is used
s to make the acquisition can be solely voting stock of the
e acquiring corporation, or solely voting stock Of the parent
n corporation that is in control of the acquiring corporation,
t but not both. If a subsidiary uses its parent's stock to make
s the-acquisition, the target corporation becomes a second-tier
e subsidiary of the parent corporation.
a
157. (d) The requirement is to determine Gow's recog-
r
?ized gain resulting from the exchange of Lad Corp. stock