[Code of Federal Regulations]
[Title 26, Volume 7]
[Revised as of April 1, 2004]
From the U.S. Government Printing Office via GPO Access
[CITE: 26CFR1.562-1]

[Page 297-301]
 
                       TITLE 26--INTERNAL REVENUE
 
    CHAPTER I--INTERNAL REVENUE SERVICE, DEPARTMENT OF THE TREASURY 
                               (CONTINUED)
 
PART 1_INCOME TAXES--Table of Contents
 
Sec. 1.562-1  Dividends for which the dividends paid deduction is allowable.

    (a) General rule. Except as otherwise provided in section 562 (b) 
and (d), the term dividend, for purposes of determining dividends 
eligible for the dividends paid deduction, refers only to a dividend 
described in section 316 (relating to definition of dividends for 
purposes of corporate distributions). No distribution, however, which is 
preferential within the meaning of section 562(c) and Sec. 1.562-2 
shall be eligible for the dividends paid deduction. Moreover, when 
computing the dividends paid deduction with respect to a U.S. person (as 
defined in section 957(d)), no distribution which is excluded from the 
gross income of a foreign corporation under section 959(b) with respect 
to such person or from gross income of such person under section 959(a) 
shall be eligible for suchdeduction. Further, for purposes of the 
dividends paid deduction, the term dividend does not include a 
distribution in liquidation unless the distribution is treated as a 
dividend under section 316(b)(2) and paragraph (b)(2) of Sec. 1.316-1, 
or under section 333(e)(1) and paragraph (c) of Sec. 1.333-4 or 
paragraph (c)(2), (d)(1)(ii), or (d)(2) of Sec. 1.333-5, or qualifies 
under section 562(b) and paragraph (b) of this section. If a dividend is 
paid in property (other than money) the amount of the dividends paid 
deduction with respect to such property shall be the adjusted basis of 
the property in the hands of the distributing corporation at the time of 
the distribution. See paragraph (b)(2) of this section for special rules 
with respect to liquidating distributions by personal holding companies 
occurring during a taxable year of the distributing corporation 
beginning after December 31, 1963. Also see section 563 for special 
rules with respect to dividends paid after the close of the taxable 
year.
    (b) Distributions in liquidation--(1) General rule--(i) In general. 
In the case of amounts distributed in liquidation by any corporation 
during a taxable year of such corporation beginning before January 1, 
1964, or by a corporation other than a personal holding company (as 
defined in section 542) or a foreign personal holding company (as 
defined in section 552) during a taxable year of such a corporation 
beginning after December 31, 1963, section 562(b) makes an exception to 
the general rule that a deduction for dividends paid is permitted only 
with respect to dividends described in section 316. In order to qualify 
under that exception, the distribution must be one either in complete or 
partial liquidation of a corporation pursuant to sections 331, 332, or 
333. See subparagraph (2) of this paragraph for rules relating to the 
treatment of distributions in complete liquidation made by a corporation 
which is a personal holding company to

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corporate shareholders during a taxable year of such distributing 
corporation beginning after December 31, 1963. As provided by section 
346(a), for the purpose of section 562(b), a partial liquidation 
includes a redemption of stock to which section 302 applies. Amounts 
distributed in liquidation in a transaction which is preceded, or 
followed, by a transfer to another corporation of all or part of the 
assets of the liquidating corporation, may not be eligible for the 
dividends paid deduction.
    (ii) Amount of dividends paid deduction allowable--(a) General rule. 
In the case of distributions in liquidation with respect to which a 
deduction for dividends paid is permissible under subdivision (i) of 
this subparagraph, the amount of the deduction is equal to the part of 
such distribution which is properly chargeable to the earnings and 
profits accumulated after February 28, 1913. To determine the amount 
properly chargeable to the earnings and profits accumulated after 
February 28, 1913, there must be deducted from the amount of the 
distribution that part allocable to capital account. The capital 
account, for the purposes of this subdivision, includes not only amounts 
representing the par or stated value of the stock with respect to which 
the liquidation distribution is made, but also that stock's proper share 
of the paid-in surplus, and such other corporate items, if any, which, 
for purposes of income taxation, are treated like capital in that they 
are not taxable dividends when distributed but are applied against and 
reduce the basis of the stock. The remainder of the distribution in 
liquidation is, ordinarily, properly chargeable to the earnings and 
profits accumulated after February 28, 1913. Thus, if there is a deficit 
in earnings and profits on the first day of a taxable year, and the 
earnings and profits for such taxable year do not exceed such deficit, 
no dividends paid deduction would be allowed for such taxable year with 
respect to a distribution in liquidation; if the earnings and profits 
for such taxable year exceed the deficit in earnings and profits which 
existed on the first day of such taxable year, then a dividends paid 
deduction would be allowed to the extent of such excess.
    (b) Special rule. Section 562(b)(1)(B) provides that in the case of 
a complete liquidation occurring within 24 months after the adoption of 
a plan of liquidation the amount of the deduction is equal to the 
earnings and profits for each taxable year in which distributions are 
made. Thus, if there is a distribution in liquidation pursuant to 
section 333, or a distribution in complete liquidation pursuant to 
section 331(a)(1) or 332 which occurs within a 24-month period after the 
adoption of a plan of liquidation, a dividends paid deduction will be 
allowable to the extent of the current earnings and profits for the 
taxable year or years even though there was a deficit in earnings and 
profits on the first day of such taxable year or years. In computing the 
earnings and profits for the taxable year in which the distributions are 
made, computation shall be made with the inclusion of capital gains and 
without any deduction for capital losses.
    (c) Examples. The application of this subparagraph may be 
illustrated by the following examples:

    Example 1. The Y Corporation, which makes its income tax returns on 
the calendar year basis, was organized on January 1, 1910, with an 
authorized and outstanding capital stock of 2,000 shares of common stock 
of a par value of $100 each and 1,000 shares of participating preferred 
stock of a par value of $100 each. The preferred stock was to receive 
annual dividends of $7 per share and $100 per share on complete 
liquidation of the corporation in priority to any payments on common 
stock, and was to participate equally with the common stock in either 
instance after the common stock had received a similar amount. However, 
the preferred stock was redeemable in whole or in part at the option of 
the board of directors at any time at $106 per share plus its proportion 
of the earnings of the company at the time of such redemption. In 1910 
the preferred stock was issued at $106 per share, for a total of 
$106,000 and the common stock was issued, at $100 per share, for a total 
of $200,000. On July 15, 1954, the company had a paid-in surplus of 
$6,000, consisting of the premium received on the preferred stock; 
earnings and profits of $30,000 accumulated prior to March 1, 1913; and 
earnings and profits accumulated since February 28, 1913, of $75,000. On 
July15, 1954, the option with respect to the preferred stock was 
exercised and the entire amount of such stock was redeemed at $141 per 
share or

[[Page 299]]

a total of $141,000 in a transaction upon which gain or loss to the 
distributees resulting from the exchange was determined and recognized 
under section 302(a). The amount of the distribution allocable to 
capital account was $116,000 ($100,000 attributable to par value, $6,000 
attributable to paid-in surplus, and $10,000 attributable to earnings 
and profits accumulated prior to March 1, 1913). The remainder, $25,000 
($141,000, the amount of the distribution, less $116,000, the amount 
allocable to capital account) is properly chargeable to the earnings and 
profits accumulated since February 28, 1913, and is deductible as 
dividends paid.
    Example 2. The M Corporation, a calendar year taxpayer, is 
completely liquidated on November 1, 1955, pursuant to a plan of 
liquidation adopted April 1, 1955. On January 1, 1955, the M Corporation 
has a deficit in earnings and profits of $100,000. During the period 
January 1, 1955, to the date of liquidation, November 1, 1955, it has 
earnings and profits of $10,000. The M Corporation is entitled to a 
dividends paid deduction in the amount of $10,000 as a result of its 
distribution in complete liquidation on November 1, 1955.
    Example 3. The N Corporation, a calendar year taxpayer, is 
completely liquidated on July 1, 1958, pursuant to a plan of liquidation 
adopted February 1, 1955. No distributions in liquidation were made 
pursuant to the plan of liquidation adopted February 1, 1955, until the 
distribution in complete liquidation on July 1, 1958. On January 1, 
1958, N Corporation had a deficit in earnings and profits of $30,000. 
During the period January 1, 1958, to the date of liquidation, July 1, 
1958, the N Corporation has earnings and profits of $5,000. The N 
Corporation is not entitled to any deduction for dividends paid as a 
result of the distribution in complete liquidation on July 1, 1958. If 
the earnings and profits for the period January 1, 1958, to July 1, 
1958, had been $32,000, the N Corporation would have been entitled to a 
deduction for dividends paid in the amount of $2,000.

    (2) Special rule--(i) Distributions to corporate shareholders. In 
the case of amounts distributed in complete liquidation of a personal 
holding company (as defined in section 542) within 24 months after the 
adoption of a plan of liquidation, section 562(b)(2) makes a further 
exception to the general rule that a deduction for dividends paid is 
permitted only with respect to dividends described in section 316. The 
exception referred to in the preceding sentence applies only to 
distributions made in any taxable year of the distributing corporation 
beginning after December 31, 1963. Under the exception, the amount of 
any distribution within the 24-month period pursuant to the plan shall 
be treated as a dividend for purposes of computing the dividends paid 
deduction, but:
    (a) Only to the extent that such amount is distributed to corporate 
distributees, and
    (b) Only to the extent that such amount represents such corporate 
distributees' allocable share of undistributed personal holding company 
income for the taxable year of such distribution (computed without 
regard to section 316(b)(2)(B) and section 562(b)(2)).

Amounts distributed in liquidation in a transaction which is preceded, 
or followed, by a transfer to another corporation of all or part of the 
assets of the liquidating corporation, may not be eligible for the 
dividends paid deduction.
    (ii) Corporate distributees' allocable share. For purposes of 
subdivision (i)(b) of this subparagraph:
    (a) Except as provided in (b) of this subdivision, the corporate 
distributees' allocable share of undistributed personal holding company 
income for the taxable year of the distribution (computed without regard 
to sections 316(b)(2)(B) and 562(b)(2)) shall be determined by 
multiplying such undistributed personal holding company income by the 
ratio which the aggregate value of the stock held by all corporate 
shareholders immediately before the record date of the last liquidating 
distribution in such year bears to the total value of all stock 
outstanding on such date. For rules applicable in a case where the 
distributing corporation has more than one class of stock, see (c) of 
this subdivision (ii).
    (b) If more than one liquidating distribution was made during the 
year, and if, after the record date of the first distribution but before 
the record date of the last distribution, there was a change in the 
relative shareholdings as between corporate shareholders and 
noncorporate shareholders, then the corporate distributees' allocable 
share of undistributed personal holding company income for the taxable 
year of the distributions (computed without regard to sections 
316(b)(2)(B) and 562(b)(2)) shall be determined as follows:

[[Page 300]]

    (1) First, allocate the corporation's undistributed personal holding 
company income for the taxable year among the distributions made during 
such year by reference to the ratio which the aggregate amount of each 
distribution bears to the total amount of all distributions during such 
year;
    (2) Second, determine the corporate distributees' allocable share of 
the corporation's undistributed personal holding company income for each 
distribution by multiplying the amount determined under (1) of this 
subdivision (b) for each distribution by the ratio which the aggregate 
value of the stock held by all corporate shareholders immediately before 
the record date of such distribution bears to the total value of all 
stock outstanding on such date; and
    (3) Last, determine the sum of the corporate distributees' allocable 
share of the corporation's undistributed personal holding company income 
for all such distributions.

For rules applicable in a case where the distributing corporation has 
more than one class of stock, see (c) of this subdivision (ii).
    (c) Where the distributing corporation has more than one class of 
stock:
    (1) The undistributed personal holding company income for the 
taxable year in which, or in respect of which, the distribution was made 
shall be treated as a fund from which dividends may properly be paid and 
shall be allocated between or among the classes of stock in a manner 
consistent with the dividend rights of such classes under local law and 
the pertinent governing instruments, such as, for example, the 
distributing corporation's articles or certificate of incorporation and 
bylaws;
    (2) The corporate distributees' allocable share of the undistributed 
personal holding company income for each class of stock shall be 
determined separately in accordance with the rules set forth in (a) and 
(b) of this subdivision (ii) as if each class of stock were the only 
class of stock outstanding; and
    (3) The sum of the corporate distributees' allocable share of the 
undistributed personal holding company income for the taxable year in 
which, or in respect of which, the distribution was made shall be the 
sum of the corporate distributees' allocable share of the undistributed 
personal holding company income for all classes of stock.
    (d) For purposes of this subdivision (ii), in any case where the 
record date of a liquidating distribution cannot be ascertained, the 
record date of the distribution shall be the date on which the 
liquidating distribution was actually made.
    (iii) Example. The application of this subparagraph may be 
illustrated by the following example:

    Example. O Corporation, a calendar year taxpayer is completely 
liquidated on December 31, 1964, pursuant to a plan of liquidation 
adopted July 1, 1964. No distributions in liquidation were made pursuant 
to the plan of liquidation adopted July 1, 1964, until the distribution 
in complete liquidation on December 31, 1964. O Corporation has 
undistributed personal holding company income of $300,000 for the year 
1964 (computed without regard to section 316(b)(2)(B) and section 
562(b)(2)). On December 31, 1964, immediately before the record date of 
the distribution in complete liquidation, P Corporation owns 100 shares 
of O Corporation's outstanding stock and individual A owns the remaining 
200 shares. All shares are equal in value. The amount which represents P 
Corporation's allocable share of undistributed personal holding company 
income is $100,000(100 shares/300 sharesx$300,000), and for purposes of 
computing the dividends paid deduction, such amount is treated as a 
dividend under section 562(b)(2) provided that the liquidating 
distribution to P Corporation equals or exceeds $100,000. P Corporation 
does not treat the $100,000 distributed to it as a dividend to which 
section 301 applies. For an example of the treatment of the distribution 
to individual A see example 5 of paragraph (e) of Sec. 1.316-1.

    (iv) Distributions to noncorporate shareholders. For the rules for 
determining the extent to which distributions in complete liquidation 
made to noncorporate shareholders by a personal holding company are 
dividends within the meaning of section 562(a), see section 316(b)(2)(B) 
and paragraph (b)(2) of Sec. 1.316-1.
    (c) Special definition of dividend for nonliquidating distributions 
by personal holding companies. Section 316(b)(2)(A) provides that in the 
case of a corporation which, under the law applicable to the taxable 
year in which or in respect of which a distribution is made, is a 
personal holding company, the term

[[Page 301]]

dividend (in addition to the general meaning set forth in section 
316(a)) also means a nonliquidating distribution to its shareholders to 
the extent of the corporation's undistributed personal holding company 
income (determined under section 545 without regard to such 
distributions) for the taxable year in which or in respect of which the 
distribution is made. See paragraph (b)(1) of Sec. 1.316-1.

[T.D. 6949, 33 FR 5529, Apr. 9, 1968, as amended by T.D. 7767, 46 FR 
11265, Feb. 6, 1981]