Reggie owns all the stock of Amethyst, Inc. (adjusted basis of $100,000). If he receives a distribution from Amethyst of $90,000 and corporate earnings and profits are $15,000, Reggie has a capital gain of $5,000 and an adjusted basis for his Amethyst stock of $0.
Answer the following statement true (T) or false (F)
False
Rationale: The distribution to Reggie is treated as a dividend to the extent of earnings and profits ($15,000). The return of capital concept applies to any excess of the amount of the distribution over the corporation’s earnings and profits. Because Amethyst’s earnings and profits are $15,000, the return of capital concept applies to $75,000 of the $90,000 distribution. The return of capital part of the distribution of $75,000 ($90,000 – $15,000) is less than Reggie’s adjusted basis of $100,000. Consequently, his recognized gain is $0 and his adjusted basis for the stock is reduced to $25,000 ($100,000 – $75,000). There is no capital gain because the portion of the distribution that represented a return of capital did not exceed Reggie's basis in the Amethyst stock.
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