Distributions to the shareholder are not included in the shareholder’s gross income if the distribution does not exceed the shareholder’s basis in the stock.
Because the tax consequences of distributions depend on the shareholder’s basis, it is important to keep up with changes in the shareholder’s basis over time.
Liquidating and non liquidating distributions
The distribution of $20,000 is treated as a current distribution because it is not part of a series of distributions that will result in the termination of A’s interest.
Under Section 731(b), a partnership that makes a current distribution does not recognize any gain or loss, and a partner who receives a current distribution cannot recognize a loss.
The partner will recognize gain, however, to the extent that the money he receives in the distribution exceeds his basis in his partnership interest (also known as "outside basis") immediately before the distribution.
If a distribution includes both money and other property, the partner’s gain resulting from the distribution of money is calculated the effects of the other property on the partner’s outside basis are taken into account. AB makes a current distribution to A of cash of $18,000 and property with a FMV of $6,000.
Because the income of S corporations is taxed to the owners when the income is earned, a mechanism is needed to ensure that the shareholder is not taxed again when the earnings are distributed.