C12-Chp-06-1A-Redemptions-2012

C12-Chp-06-1A-Redemptions-2012 - Chapter 6A. Corporate...

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1 Chapter 6A. Corporate Redemptions Howard Godfrey, Ph.D., CPA Professor of Accounting Edited February 3, 2010 Copyright 2010
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The student should be able to: 1. Distinguish between a stock redemption treated as a sale and one treated as a dividend. 2. Explain the tax treatment for preferred stock bailouts. 3. Determine when Sec. 304 applies to a stock sale and its consequences.
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Distinguish between a stock redemption treated as a sale and one treated as a dividend.
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4 Stock Redemptions. A stock redemption is defined as the acquisition by a corporation of its own stock in exchange for property (Sec. 317(b)). The property exchanged can be money, securities or any other property that the corporation wants to use to acquire the stock. The acquired stock may be canceled, retired or held as treasury stock.
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5 Effect of Redemption on Shareholder -1 When a shareholder's stock is redeemed by a corporation, the transaction will either be treated as a sale or exchange, or as a dividend. The reason is that some redemptions closely resemble a sale or exchange to a third party, while others are essentially equivalent to a dividend.
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6 Effect of Redemption on Shareholder.-2 A redemption qualifies for sale or exchange treatment if it satisfies any one of the five conditions listed on the slides that follow. Under current law the capital gains rate applies to both dividends and capital gains. With exchange treatment, basis of stock is subtracted to get gain, whereas a dividend treatment applies to 100% of the proceeds, Corporate shareholders may prefer dividend treatment in order to claim a 70%, 80%, or 100% dividends-received deduction.
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7 Corporation redeems stock - buys it back Individuals often prefer exchange treatment, (sale of stock) over dividend treatment. A bought 1,000 shares Big Corp. for $80,000. A sells the stock to Big Corp. for $100,000. Tax Impact on A Dividend Exchange Amt. Received for Stock 100,000 $ 100,000 $ Less: Cost of Stock Dividend income Capital gain or loss What if Corp. has no Earnings and Profits?
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8 Corporation redeems stock - buys it back Individuals often prefer exchange treatment, (sale of stock) over dividend treatment. A bought 1,000 shares Big Corp. for $80,000. A sells the stock to Big Corp. for $100,000. Tax Impact on A Dividend Exchange Amt. Received for Stock 100,000 $ 100,000 $ Less: Cost of Stock (80,000) Dividend income 100,000 $ Capital gain or loss 20,000 $ What if Corp. has no Earnings and Profits?
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Exchange treatment-multiple benefits First, you get to subtract your cost from the proceeds. This reduces your “income” and may even produce a loss on the transaction. Second, the gain is capital gain, which is has traditionally been subject to a lower top tax rate (But 2003 Act reduced tax rate on dividend income). Third,
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C12-Chp-06-1A-Redemptions-2012 - Chapter 6A. Corporate...

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