then, on the date of such reduction such section 38 property ceases to be section 38 property with respect to such shareholder to the extent of the actual reduction in such shareholder's proportionate stock interest. (For example, if $100 of the basis of section 38 property was apportioned to a shareholder and if his proportionate stock interest is reduced from 60 percent to 30 percent (that is, 50 percent of his original interest), then such property shall be treated as having ceased to be section 38 property to the extent of $50.) Accordingly, a recapture determination shall be made with respect to such shareholder. For purposes of such recapture determination the actual useful life of such property shall be the period beginning with the date on which it was placed in service by the electing small business corporation and ending with the date on which it is treated as having ceased to be section 38 property with respect to the shareholder. In making a recapture determination under this subparagraph there shall be taken into account any prior recapture determination made with respect to the shareholder in connection with the same property.
Asset No. | Basis | Estimated useful life (Years) |
1 | $30,000 | 4 |
2 | 30,000 | 6 |
3 | 30,000 | 8 |
On December 31, 1962, X Corporation had 20 shares of stock outstanding which were owned equally by A and B who make their returns on the basis of a calendar year. Under § 1.48-5 , the total bases of section 38 properties was apportioned to the shareholders of X Corporation as follows:
Useful life category | |||
4 to 6 years | 6 to 8 years | 8 years or more | |
Total bases | $30,000 | $30,000 | $30,000 |
Shareholder A (10/20) | 15,000 | 15,000 | 15,000 |
Shareholder B (10/20) | 15,000 | 15,000 | 15,000 |
Assuming that during 1962 shareholders A and B did not place in service any section 38 property and that they did not own any interests in other electing small business corporations, partnerships, estates, or trusts, the qualified investment of each shareholder is $30,000, computed as follows:
Basis | Applicable percentage | Qualified investment |
$15,000 | 331/3 | $5,000 |
$15,000 | 662/3 | 10,000 |
$15,000 | 100 | 15,000 |
30,000 |
For the taxable year 1962, each shareholder's credit earned of $2,100 (7 percent of $30,000) was allowed under section 38 as a credit against his liability for tax.
Basis | Applicable percentage | Recomputed qualified investment |
$7,500 | 331/3 | $2,500 |
$7,500 | 662/3 | 5,000 |
$7,500 | 100 | 7,500 |
15,000 |
For the taxable year 1962 shareholder A's recomputed credit earned is $1,050 (7 percent of $15,000). The income tax imposed by chapter 1 of the Code on shareholder A for the taxable year 1964 is increased by the $1,050 decrease in his credit earned for the taxable year 1962 (that is, $2,100 original credit earned minus $1,050 recomputed credit earned).
26 C.F.R. §1.47-4