The Ace Sporting Goods Store (an S corporation) is owned by Dick and Harry. Rick and Harry each own one-half of Aces stock and have a $2,000 basis in their respective shares. At incorporation, Rick loaned $4,000 to Ace and received a five year, 12% note from the corporation.

(a) If Ace has an $8,000 loss from business operations this year, what will be the results to Rick and Harry? Do you have any suggestions for Harry? Would it matter if on December 15 Ace borrowed $4,000 from its bank on a full recourse basis? What if Rick and Harry personally guaranteed the loan? Compare Internal Revenue Code Section 752(a) and 722.

(b) If Ace has $6,000 of net income from business operations next year, what will be the results to Rick and Harry?

(c) What difference would it make in (a), above, if the $8,000 loss was made up of $2,000 of losses from business operation and a $6,000 long-term capital loss? See Tax Regulation Section 1.704-1(d)(2).

What would be the effect in (a), above, if Aces S corporation status was terminated at the end of the current year?