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Stock Redemptions

Stock Redemptions. Stock Redemptions. Acquisition by a corporation of its own stock in exchange for property A redemption is essentially a sale by the shareholder of his/her stock to the corporation. Why doesn’t the shareholder get sale treatment?. Problem 4-45. Shareholder Consequences.

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Stock Redemptions

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  1. Stock Redemptions

  2. Stock Redemptions • Acquisition by a corporation of its own stock in exchange for property • A redemption is essentially a sale by the shareholder of his/her stock to the corporation. Why doesn’t the shareholder get sale treatment?

  3. Problem 4-45

  4. Shareholder Consequences • Sale treatment produces capital gain or loss • Dividend treatment produces ordinary income on entire distribution (to the extent of e&p) • Generally taxed at 15%

  5. Sale Treatment • Substantially disproportionate redemptions. Sec. 302(b)(2) • Complete termination of shareholder’s interest. Sec. 302(b)(3) • Redemptions not essentially equivalent to a dividend. Sec. 302(b)(1) • Noncorporate shareholder partial liquidations. Sec. 302(b)(4) • Redemptions to pay death taxes. Sec. 303

  6. Substantially Disproportionate Redemptions • After the redemption, the s/h • Owns < 50% of voting power of all classes of stock • Owns < 80% of his/her percentage ownership of voting stock before the redemption (a decline of more than 20%) • Owns < 80% of his/her percentage ownership of common stock before the redemption (decline of more than 20%)

  7. Problem 4-51a What if Bea is Carl’s spouse and Andrew is Carl Jr.’s son? What percentage does Bea own before and after?

  8. §318 Attribution Rules(1 of 2) • Family attribution • Spouse, children, grandchildren, & parents (no grandparent to grandchild; no bother to sister) • Stock cannot be reattributed to another family member • Attribution from entities (upstream) • Proportionate ownership for stock owned by or for partnership, estate, or trust • Proportionate ownership for stock owned by C corp only for s/h owning  50%

  9. §318 Attribution Rules(2 of 2) • Attribution to entities (downstream) • Stock owned by partners or beneficiaries considered owned by partnership, estate, or trust • Stock owned by  50% shareholder of C corp considered owned by corp • Option attribution • Option owner treated as owning stock

  10. Problem 4-43 and 44

  11. Complete Termination of Interest • Redemption of shareholder’s entire interest corporation consisting of nonvoting stock • Normally would not qualify with related shareholders because no reduction in voting power occurs • Family attribution rules may be waived to allow complete termination to qualify

  12. Redemptions not Essentially Equivalent to a Dividend (1 of 2) • Facts and circumstances test • No safe harbor or mechanical test • Generally applies to • Redemptions of nonvoting preferred stock if no common stock owned • Redemptions involving a minority interest reduction.

  13. Redemptions not Essentially Equivalent to a Dividend (2 of 2) • Generally applies to (continued) • Redemptions resulting in substantial reduction in shareholder’s right to vote and exercise control, participate in earnings, or share in assets upon liquidation

  14. Problem 4-51b

  15. Problem 4-51c Because this redemption meets the substantially disproportionate test, no need to worry about the Sec. 302(b)(3) waiver of family attribution.

  16. Problem 4-51f

  17. Problem 4-50 Meets 302(b)(2), (b)(3), and (b)(1).

  18. Problem 4-50b Ignore the complete termination rule for now.

  19. Problem 4-50c Note that if Alan qualifies for sale treatment under Sec 302(b)(1) (see (b) above), then no need for the agreement and no concern about Alan subsequently having an interest in the corporation other than that of a creditor.

  20. Partial Liquidations(1 of 2) • Corp discontinues one line of business • Distributes assets to shareholders • Continues other line(s) of business • Determined at corporate level • Must be bona fide business contraction

  21. Partial Liquidations(2 of 2) • Tax consequences to shareholders • Noncorp shareholder treats redemption as a sale • Corp treats as a dividend unless redemption meets one of other tests for sale treatment

  22. Problem 4-47 This problem assumes that the dividend to Delta is not an extraordinary distribution under Sec 1059(e) because Delta owned Axle from its inception.

  23. Redemptions To PayDeath Taxes, etc. Sec. 303 • Redemption of stock from estate or beneficiaries. • The value of the redeeming corporation’s stock must comprise more than 35% of the adjusted gross estate. • Sale treatment is limited to the maximum amount of all federal and state estate and inheritance taxes, plus interest due on those taxes, and all funeral and administration expenses. • Aggregate the stock of two or more corporations provided that 20% or more of the value of each corporation’s outstanding stock is in the gross estate.

  24. Problem 4-51d

  25. Effect of Redemptions on Distributing Corporation • Sale treatment may produce gains but no losses • E&P must be reduced by • Full amount for dividends (if dividend) OR • Proportionate amount for sale treatment after adjusting for gains net of taxes

  26. Problem 4-51e

  27. Problem 4-49

  28. Problem 4-54a, b

  29. Problem 4-54c

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