Question

In June of the current year, Marigold Corporation declares a $4 dividend out of E & P on each share of common stock to shareholders of record on August 1. Ellen and Tim each purchase 100 shares of Marigold stock on July 1. On July 15, Ellen also purchases a short position in Marigold. Tim sells 50 of his shares on August 10 and continues to hold the remaining 50 shares through the end of the year. Ellen closes her short position in Marigold on October 15. With respect to the dividends, which of the following is correct?

(A) Ellen will have $400 of qualifying dividends subject to reduced tax rates and $400 of ordinary income (from dividends paid on the short position of Marigold stock).
(B) Tim will have $200 of qualifying dividends subject to reduced tax rates and $200 of ordinary income.
(C) All $800 of Ellen’s dividends will qualify for reduced tax rates.
(D) All $400 of Tim’s dividends will qualify for reduced tax rates.
(E) None of the above

Answer 1

B. Tim will have $200 of qualifying dividends subject to reduced tax rates and $200 of ordinary income

Step-by-step explanation:

First, Ellen's Stocks Do not Qualify. Why?

It is held that dividends received from stocks that are held in short and long positions are not qualified for reduced tax rates, hence, option A stating that Ellen qualifies for reduced tax rates is wrong. Ellen purchased stock from Marigold Corporation on both short and long positions.

Secondly, Only $200 of Tim's Dividends will Qualify for reduced tax rates and $200 of ordinary income. How?

• For stock to qualify for reduced tax rates, the holder must have them for at least 60 days during a 121 day period. The 121 day period, however, will only begin to count 60 days before the ex-dividend date. Since Tim sold 50 of his shares on August 10, it was sold prematurely. Tis means only the 50 left the end of year qualified for Reduced tax rate. $4 *50=$200 is qualified for dividend subject to reduced rates.
• The initial 50 sold on August 10 * $4 will also yield $200 as Ordinary Income for Tim.