Choice "b" is correct. Dividend income is distributions to shareholders first
out of current earnings and profits, then out of accumulated earnings and
profits. After earnings and profits have been depleted, the distribution is a
liquidating return of capital. Since there is a total of $140,000 in earnings
and profits ($80,000 + $60,000), $140,000 is dividend income. The remaining
$40,000 is a liquidating return of capital.
Choice "d" is incorrect. Distributions are considered dividends to the
shareholders to the extent a corporation has current or accumulated earnings and
profits. Therefore, the dividend treatment is limited to $140,000 of the
distribution.
Choice "c" is incorrect. The corporation had accumulated earnings and profits
of $60,000 that must also be considered.
Choice "a" is incorrect. Distributions from a corporation to its shareholders
are considered dividend income to the extent the corporation has current and
accumulated earnings and profits. Any additional amounts are a return of capital
and any excess beyond capital are considered capital gain.
