Question

True or False. A stock redemption involves an exchange of stock for cash or property; thus, the transaction always results in sale or exchange treatment for the shareholder.

Answer 1

True , a stock redemption plan involves an exchange of stock for cash or property thus transaction always results in sale or exchange in treatment of shareholders ,

Although a shareholder receiving an IRC Section 301 distribution will likely have to include part of the distribution in the shareholder’s income as a dividend (generally, taxed at ordinary income rates),

(i) if the shareholder is an individual, trust, or estate (i.e., a non-corporate shareholder)

(ii) the distribution is from a domestic corporation, the dividend component will be a “qualified dividend” and, therefore, taxed at capital gains rates.

if the dividend is a “qualified dividend,” then the dividend will be taxed at the same tax rate as an IRC Section 302 distribution. However, the amount of gain included in the shareholder’s income may differ given the specific rules under IRC Section 301 vis-à-vis IRC Section 302.

It is important that a shareholder be aware of the different tax treatment that will result depending on whether a redemption of all or part of their stock is properly classified as a sale or exchange under IRC Section 302 or as a potential dividend payment under IRC Section 301 so that there are no surprises regarding the amount of net, after-tax proceeds the shareholder will receive.