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Federal income tax purposes before the settlement date of June
22, 1998, we assume that petitioners’ argument is only that the
amount of the arbitration award would somehow be relevant to Mr.
Dunne’s shareholder status or the amount of FRC’s income that is
taxable to petitioners. However, this is incorrect because the
amount that Mr. Dunne was entitled to receive from the
arbitration award is irrelevant for determining his shareholder
status or tax liability. See Chen v. Commissioner, T.C. Memo.
2006-160; Knott v. Commissioner, T.C. Memo. 1991-352. The amount
that Mr. Dunne received from the arbitration award may be
relevant for the purpose of determining Mr. Dunne’s basis in his
FRC stock, but that matter is not at issue in this case.
Petitioners also argue that they are not liable for tax on
FRC’s income in 1997 because Mr. Dunne was not the beneficial
owner of his FRC shares in 1997, and for that reason alone his
1997 Schedule K-1 is incorrect. Petitioners do not dispute that
FRC had a valid S corporation election in effect in 1997, that
the amount of FRC’s income and loss reported on its Form 1120S is
correct, or that the total amount of income and loss reported on
the Schedules K-1 is consistent with FRC’s Form 1120S.
Section 1366(a)(1) provides that in determining the income
tax liability of an S corporation shareholder, the shareholder
shall take into account his pro rata share of the S corporation’s
items of income, loss, deduction, and credit (tax items) for the
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