A and B form AB corporation on January 1, 2015 and commence operations with the intent that the corporation will be treated as subchapter S corporation for federal tax purposes. A contributes real property (10 years remaining straight-line recovery property) she has held for many years with a basis of $500,000 and fair market value of $1,000,000 in exchange for her 80 shares and while B contributes $250,000 in cash in exchange for her 20 shares in the corporation.

AB elects a December 31 tax year and AB had the following income and expenses during its calendar tax year which ended December 31 of the current year:

Business income

550,000

Tax exempt interest

5000

Salaries

(15000)

Depreciation

(50000)

Property Taxes

(15000)

Supplies (15,000)

Interest expense paid on a margin account maintained

with AB’s stock broker (6000)

(a) Summarize the requirements that AB must satisfy in order to be treated as an S-Corporation under federal law.

(b) Assuming AB qualifies as an S-corporation for 2015, how will AB, A and B report the income and loss items?

(c) What is A and B’s basis in their shares at the end of 2015? Explain your answer.

(d) If in 2016 AB’s income equals its expenses except that AB sells the real property contributed by A for $1,000,000, how will AB, A and B report that event? Explain your answer.