ExpertHard1 markMultiple Choice
CPA · Question 16 · Area II: Entity Tax Compliance
An S Corporation shareholder has a stock basis of $10,000 and a debt basis of $0 at the beginning of Year 1. In Year 1, the S Corp reports an ordinary loss of $15,000. In Year 2, the S Corp reports ordinary income of $8,000. What is the shareholder's stock basis at the end of Year 2?
An S Corporation shareholder has a stock basis of $10,000 and a debt basis of $0 at the beginning of Year 1. In Year 1, the S Corp reports an ordinary loss of $15,000. In Year 2, the S Corp reports ordinary income of $8,000. What is the shareholder's stock basis at the end of Year 2?
Answer options:
A.
$8,000
B.
$3,000
C.
$0
D.
$13,000
How to approach this question
Track both bases. Losses reduce Stock first, then Debt. Income restores Debt first, then Stock. <br/>Year 1 Start: Stock 10, Debt 20. <br/>Year 1 Loss (15): Stock -10 (0), Debt -5 (15). <br/>Year 2 Income 8: Debt +5 (20), Stock +3 (3).
Full Answer
B.$3,000✓ Correct
$3,000
IRC §1367(b)(2) requires that if debt basis has been reduced by losses, subsequent net increases (income) must be applied to restore the debt basis to its original amount before increasing stock basis. Year 2 income of $8,000 first restores the $5,000 reduction in debt basis, leaving $3,000 to increase stock basis.
Common mistakes
Increasing stock basis before restoring debt basis.
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