How was the historical section 24402 dividend deduction computed when the payer's earnings included liquidation gain excluded from California's tax measure?

Plain-English summary

California Legal Ruling 211 limited the historical dividend deduction when the paying corporation's earnings and profits included gain that had not been included in California's tax measure.

The explicit computation in the ruling used:

earnings and profits included in the tax measure ÷ total earnings and profits available for dividends

That percentage was applied to the dividend to determine the deductible portion under former section 24402.

Facts addressed by the ruling

X Corporation adopted a complete-liquidation plan in 1955.

Within 12 months, it sold assets at a substantial gain. Former section 24512 excluded that gain from the measure of tax.

X later declared a dividend to the taxpayer. When it declared the dividend, X had enough accumulated earnings and profits from other sources—amounts that had been included in the tax measure—to cover the payment.

The question was whether the dividend could be treated as coming only from those taxed earnings or had to reflect X's total earnings and profits, including the excluded gain.

Why the excluded gain entered the denominator

The asset-sale gain became part of X's earnings and profits from which dividends could be paid.

The ruling therefore included that gain in total earnings and profits—the denominator of the dividend-deduction fraction.

Because the gain had been excluded from the measure of tax, it was omitted from the numerator.

The resulting fraction represented the share of the dividend deductible under former section 24402.

Why other available earnings did not change the result

The taxpayer could not trace the dividend only to accumulated earnings that had been taxed.

The ruling read former section 24495(b) to treat dividends as paid from the total earnings and profits for the particular year, not from a selected portion of that fund.

Even though X had enough taxed earnings to cover the dividend, total earnings—including the excluded liquidation gain—had to be used in the computation.

Source wording inconsistency

One sentence in the official text describes a ratio of total earnings and profits to earnings and profits included in the tax measure.

The next paragraph expressly says the excluded gain belongs in the denominator and tax-measured earnings belong in the numerator. That detailed instruction produces the fraction described in this summary.

The original wording is preserved verbatim below.

What this means for you

Corporate dividend recipients

Under the historical ruling, the source corporation's entire earnings-and-profits pool affected the deduction. A recipient could not designate the dividend as coming solely from the portion previously included in California's tax measure.

Liquidating corporations

An asset gain excluded from the tax measure could still enter earnings and profits and reduce the recipient's deductible dividend percentage.

Accountants and tax professionals

Reconcile total earnings and profits, amounts included in the California tax measure, excluded gains, dividend dates, and the tax-year statute. Carefully validate numerator and denominator placement when working from the official page.

Common questions

Q: Was the full dividend deductible because taxed earnings were sufficient to cover it?

A: No. The ruling required use of the entire earnings-and-profits fund.

Q: Where did the excluded liquidation gain appear in the fraction?

A: In total earnings and profits, the denominator, but not in tax-measured earnings, the numerator.

Q: What percentage was applied to the dividend?

A: The percentage produced by dividing earnings and profits included in the tax measure by total earnings and profits.

Q: Why could the dividend not be traced to selected earnings?

A: The ruling read former section 24495(b) as paying dividends from the total earnings-and-profits fund for the year.

Q: Does the official source state the ratio consistently?

A: No. Its general sentence and detailed numerator/denominator paragraph point in opposite directions; this page follows the explicit detailed computation.

Citations and references

• Former Cal. Rev. & Tax. Code §§ 24402, 24495(b), and 24512

Source

• Landing page: California FTB Legal Rulings
• Official HTML: Legal Ruling 211

Original ruling text

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Legal Ruling 1958-211

California Franchise Tax Board
Legal Ruling No. 211

January 20, 1958

Dividends: Deductibility Under Section 24402

Dividends paid from earnings and profits which have not been included in the measure of the tax are not deductible under the provisions of Section 24402.

During 1955 X corporation adopted a plan of complete liquidation. Within twelve months of the adoption of the plan, X sold certain assets at a substantial gain. The gain was excluded from the measure of the tax under the provisions of Section 24512. X thereafter declared a dividend payable to taxpayer. At the time the dividend was declared X had sufficient earnings and profits accumulated from sources other than the sale of assets with which to pay the dividend. These amounts had been included in the measure of the tax. Advice is requested as to the proper method of computing the deductibility of the X dividend under Section 24402.

In determining the deductibility of dividends for a given year, it is necessary to determine the ratio that the total earnings and profits received during the year bears to the earnings and profits which have been included in the measure of the tax. The resulting percentage is applied to the dividends paid to determine the deductible portion under Section 24402.

In the instant case the gain realized by X corporation from the sale of its assets became a part of the earnings and profits from which dividends could be paid. They were properly includible, therefore, in the denominator for the dividend computation. Since they were not a part of the earnings and profits which was included in the measure of the tax they were properly omitted from the numerator for the dividend computation. The resulting ratio is the percentage of the dividend which is deductible.

The fact that X had other earnings and profits from which the dividend could have been paid would have no effect on our computation. Under Section 24495 (b) dividends are paid from the total earnings and profits earned for a particular year and not from just a part thereof. Since paid from the total fund we must use the total amount for our denominator in the dividend computation.

Last updated: 09/24/2025