¹⁹See Notice 2000-26, IRB 2000-17, 954, Q&A-7.

²⁰The IRS has followed (without comment) Sec. 453B(h)(2), flush language (on the character of the gain a shareholder recognizes); see IRS Letter Ruling 9853013 (9/28/98), issued after Regs. Sec. 1.453-11(a)(2)(i).

²¹J’s $450,000 adjusted basis is increased by the $125,000 Sec. 1245 gain X recognized.

²²Sec. 1374 may impose a tax (currently at 35%) on an S corporation that transfers (in a taxable disposition) an asset that had BIG when the corporation (previously a C corporation) elected S status, (unless more than 10 years have elapsed since the election’s effective date).

²³Sec. 1375(a) imposes a tax on an S corporation with accumulated earnings and profits and PII that exceeds 25% of gross receipts. PII includes gains from sales or exchanges of stock or securities; see Secs. 1375(b)(3) and 1362(d)(3).

²⁴Any tax the corporation paid under Sec. 1374 is treated as a loss sustained during the year (and allocated to shareholders accordingly), under Sec. 1366(f)(2).

²⁵Sec. 1366(f)(3) provides that any Sec. 1375 tax paid by the corporation reduces the PII flowing through to the shareholders.

²⁶See Regs. Sec. 1.338(h)(10)-1(e), Example 10; and Notice 2000-26, note 19 supra, Q&A-5.

²⁷Adapted from Regs. Sec. 1.338(h)(10)-1(e), Example 10.

²⁸This article limits its discussion to the application of Secs. 1272 and 1274.

²⁹Sec. 1274(c)(1); see Sec. 1274(c)(3) for exceptions.

³⁰Sec. 1274A provides special rules when the principal amount does not exceed $2.8 million.

³¹See Regs. Sec. 1.1273-1(c). “Qualified stated interest” includes interest unconditionally payable in cash or property at least annually at a single fixed rate. Special rules apply to variable-rate debt instruments; see Regs. Sec. 1.1275-5(e). The adjusted issue price of a qualifying installment note with unstated interest subject to Sec. 483 is determined under Regs. Sec. 1.446-2(c) and (d).

³²If the liquidating corporation is an S corporation, the corporation’s income recognition on the inventory sale increases a shareholder’s basis, reducing his overall gain on the liquidation.

³³However, M may still have converted ordinary income into long-term capital gain.

³⁴Secs. 332 and 337 provide generally that neither the parent nor the liquidating subsidiary recognizes gain or loss on the subsidiary’s liquidation.

³⁵See Regs. Sec. 1.453-11(c)(3)(i), Example 1.

³⁶This rule applies regardless of whether the sale giving rise to the installment note occurred in the context of a subsidiary liquidation.