Problem:
I can't find any references to determine if Porter can or cannot claim a deficiency dividend to eliminate a penalty tax on his personal holding company income. Please help me determine if Porter can declare a taxable dividend without any corresponding cash flow to its shareholders, and the tax consequences of the dividend to the Porters. The details of the problem follow.
Two weeks ago, the IRS completed an audit of Porter Inc.'s 2001 tax return. Because the IRS determined that Porter was a personal holding company, it assessed $26,730 personal holding company tax on $67,500 undistributed personal holding company income. Mr. and Mrs. Porter, the sole shareholders, want the corporation to declare a $67,500 deficiency dividend to eliminate the penalty tax for 2001. However, Porter has only $3,051 cash on hand and no investments that it can liquidate without incurring a loss. Can Porter declare a taxable dividend without any corresponding cash flow to its shareholders? What would be the tax consequences of such a dividend to Mr. and Mr. Porter?