Cheers Corporation purchased for $500,000 5,000 shares of Beer Corporation common stock (less than 5% of the outstanding Beer stock) at the beginning of the current year. It used $400,000 of borrowed money and $100,000 of its own cash to make this purchase. Cheers paid $50,000 of interest on the debt this year. Cheers received a $40,000 cash dividend on the Beer stock on September 1 of the current year. Cheers has $5 million of taxable income before any dividends-received deduction. a. What amount can Cheers deduct for the interest paid on the loan

Cheers Corporation

The amount that Cheers can deduct for the interest paid on the loan is:

= $50,000.

Explanation:

a) Data:

Investment in Beer Corporation = $500,000

Number of Beer shares purchased = 5,000

Percentage shareholding in Beer Corporation < 5%

Amount borrowed for the investment = $400,000

Own cash used for the purchase = $100,000

Interest paid on the debt for this year = $50,000 = 12.5%

Cash dividend received for the year = $40,000

Cheers taxable income before dividends = $5 million

The amount of interest deductible = $50,000

b) Since the interest was made for the purpose of the investment in Beers Corporation, the whole amount of interest expense for the year is deductible.

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