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were the sole shareholders of two corporations engaged in the
retail barbecue business. One of the corporations, an
S corporation, was consistently unprofitable. The other
corporation, a C corporation, was consistently profitable. Over
the course of approximately 22 months, the C corporation had made
loans totaling $110,000 to the S corporation, which were
memorialized by a series of promissory notes. The taxpayers’
accountant informed the taxpayers that their losses from the
S corporation would exceed their adjusted basis in the
S corporation and advised them to increase their basis in the
S corporation so they could utilize the losses. In an
arrangement, not unlike the one herein, the C corporation
surrendered the notes of the S corporation to the S corporation,
the taxpayers substituted their personal note to the
C corporation, and the S corporation gave its demand note to the
taxpayers. The Court of Appeals for the Fifth Circuit, affirming
the decision of this Court, determined that the taxpayers were
not entitled to increase their basis in the S corporation as a
result of the arrangement.
In reaching its decision, the Court of Appeals for the Fifth
Circuit discussed the focus of Congress at the time section
1374(c)(2)(B), the predecessor to section 1366(d)(1), was
enacted, referring initially to the following statement in the
legislative history:
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