Question

Wasatch Corp. (WC) received a $200,000 dividend from Tager Corporation (TC). WC owns 15 percent of the TC stock. Compute WC’s deductible DRD in each of the following situations:

a. WC’s taxable income (loss) without the dividend income or the DRD is $10,000.

b. WC’s taxable income (loss) without the dividend income or the DRD is ($10,000).

c. WC’s taxable income (loss) without the dividend income or the DRD is ($99,000).

d. WC’s taxable income (loss) without the dividend income or the DRD is ($101,000).

e. WC’s taxable income (loss) without the dividend income or the DRD is ($500,000).

f. What is WC’s book–tax difference associated with its DRD in part (a)? Is the difference favorable or unfavorable? Is it permanent or temporary?

Answer 1

Dividends Received Deduction:

• The dividends received deduction (DRD) is a federal tax deduction in the U.S. that is given to certain corporations that get dividends from related entities. The amount of DRD that a company may claim depends on its percentage of ownership in the company paying the dividend.
• There are three tiers of possible deductions. First, the general rule states that the DRD is equal to 70% of the dividend received. Second, if the company receiving the dividend owns more than 20% but less than 80% of the company paying the dividend, the DRD amounts to 80% of the dividend received. Finally, if the company receiving the dividend owns more than 80% of the company paying the dividend, the DRD equates to 100% of the dividend.
• The taxable income limitation also applies to DRD stipulations. This rule affects dividends received from companies in which the payee has less than 80% ownership. The rule applies if the taxable income figure of the dividend-receiving company is less than what the DRD would be otherwise.
• In the case that the taxable income limitation is met, the DRD equals the percentage (70% or 80% depending on the ownership—as laid out above) of the taxable income. However, the taxable income limitation does not apply if the dividend-receiving company has a net operating loss.

Based on the above information, Wasatch owns 15% of stock of Tager Corporation hence the DRD is equal to 70% of the dividend received. Therefore its full DRD is $ 140,000 ($ 200,000 * 70%).

Particulars	Amount (a)	Amount (b)	Amount (c)	Amount (d)	Amount (e)
Dividend	200,000	200,000	200,000	200,000	200,000
Income/(loss)	10,000	(10,000)	(99,000)	(101,000)	(500,000)
Taxable Income	210,000	190,000	101,000	99,000	(300,000)
DRD	70%	70%	70%	70%	NA
Taxable Income limitation	147,000	133,000	70,700	69,300	NA
Deductible DRD	140,000	133,000	70,700	69,300	140,000
Explanation (Please refer below)	i	ii	iii	iv	v

Explanation:

i	Since full $140,000 DRD is less than the taxable income limit, deductible DRD is $140,000.
ii	The taxable income limitation of $133,000 is less than the full DRD of $140,000, DRD is limited to $133,000.
iii	The taxable income limitation of $ 70,700 is less than the full DRD of $140,000 DRD is limited to $70,700.
iv.	The taxable income limitation of $69,300 is less than the full DRD of $140,000, however, because deducting the full DRD leaves Wasatch in a loss position ($139,000 - $140,000 < $0).
v.	Wasatch is in a loss position before deducting the DRD, the taxable income limitation does not apply and Wasatch may deduct the full DRD of $140,000.

f. WC's book-tax difference is $140,000. The book-tax difference is favorable and permanent.