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What is the distribution order for an S Corporation when no E&P exists from the C Corporation?

In the event that, prior to converting to an “S status” the corporation did not exist or operate as a C corporation, there would not be any accumulated earnings and profits. Therefore, the distribution order would be as follows:

First distribution – the first distribution would be made from S corporation earnings and profits (AAA) and would be nontaxable to the receiving shareholder.

Second distribution – the second distribution would be a reduction to the shareholders basis in the corporation’s stock and would be treated as a nontaxable return of capital.

Third distribution – any distribution that exceed the shareholders basis would be treated as a capital gain to the receiving shareholder.


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