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A corporation that has both preferred and common stock has a deficit in accuulated earnings and profit at the beginning of the year. The current earnings and profits are \$25,000. the corporation makes a divided distribution of \$20,000 to the preferred shareholders and \$10,000 to the common shareholders. How will the preferred and common shareholders report these distributions?

A) Preferred - \$20,000 dividend income; common - \$10,000 dividend income

B) Preferred - \$20,000 dividend income; common - \$5,000 dividend income, \$5,000 return of capital

C) Preferred - \$15,000 dividend income; common - \$10,000 dividend income

D) Preferred- \$20,000 return of capital; common - \$10,000 return of capital

## SOLUTION This solution is FREE courtesy of BrainMass!

B) Preferred - \$20,000 dividend income; common - \$5,000 dividend income, \$5,000 return of capital

The correct answer is B because the dividend is based on the fixed percentage amount at purchase and common shareholders are called residual claimers. The 20,000 paid to preferred reduces E&P to 5,000 (25000 - 20000). The 5,000 goes to common shareholders with 5,000 being return of capital to equal the 10,000.