26 CFR § 1.312-4 - Examples of adjustments provided in section 312(c).

The adjustments provided in section 312(c) may be illustrated by the following examples:

Example 1.

On December 2, 1954, Corporation X distributed to its sole shareholder, A, an individual, as a dividend in kind a vacant lot which was not an inventory asset. On that date, the lot had a fair market value of $5,000 and was subject to a mortgage of $2,000. The adjusted basis of the lot was $3,100. The amount of the earnings and profits was $10,000. The amount of the dividend received by A is $3,000 ($5,000, the fair market value, less $2,000, the amount of the mortgage) and the reduction in the earnings and profits of Corporation X is $1,100 ($3,100, the basis, less $2,000, the amount of mortgage).

Example 2.

The facts are the same as in Example (1) above with the exception that the amount of the mortgage to which the property was subject was $4,000. The amount of the dividend received by A is $1,000, and there is no reduction in the earnings and profits of the corporation as a result of the distribution (disregarding such reduction as may result from an increase in tax to Corporation X because, of gain resulting from the distribution). There is a gain of $900 recognized to Corporation X, the difference between the basis of the property ($3,100) and the amount of the mortgage ($4,000), under section 311(c) and an increase in earnings and profits of $900.

Example 3.

Corporation A, having accumulated earnings and profits of $100,000, distributed in kind to its shareholders, not in liquidation, inventory assets which had a basis to it on the “Lifo” method (section 472) of $46,000 and on the basis of cost or market (section 471) of $50,000. The inventory had a fair market value of $55,000 and was subject to a liability of $35,000. This distribution results in a net decrease in earnings and profits of Corporation A of $11,000, (without regard to any tax on Corporation A) computed as follows:

“Fifo” basis of inventory	$50,000
Less: “Lifo” basis of inventory	46,000
Gain recognized—addition to earnings and profits (section 311(b))		$4,000
Adjustment to earnings and profits required by section 312(b)(1)(A):
Fair market value of inventory	$55,000
Less: “Lifo” basis plus adjustment under section 311(b)	50,000	5,000
Total increase in earnings and profits		9,000
Decrease in earnings and profits—under section 312(b)(1)(B)(i)	$55,000
Less: Liability assumed	35,000
Net amount of distribution (decrease in earnings)		20,000
Net decrease in earnings and profits		11,000