Question

XYZ, a calendar-year corporation, had accumulated earnings and profits of $5,000 as of January 1, 2019. XYZ’s earnings and profits for 2019 were $8,000. During 2019, XYZ distributed one stock right for each of the 10,000 outstanding shares of its only class of stock. The fair market value of each stock right was $15. The corporation gave shareholders the option of receiving the stock rights or cash. No other dividends were paid in 2019. Ms. Y is a 10% shareholder and elects to receive the stock rights. What is the amount of the distribution that is includible in Ms. Y’s 2019 gross income as a dividend?

Answer 1

$1,300

Step-by-step explanation:

Since Ms. Y was given the option to either receive the stock option or cash, the entire dividend distribution will be included in her gross income.

XYZ's distribution = 10,000 stocks x $15 = $150,000 which exceeds its retained earnings which were only $13,000. So only $13,000 can be considered as dividends, while the rest, $137,000 will be considered as return of capital (which reduces the stock's basis, but is not taxed as gross income).

So Ms. Y's share of the dividends = $13,000 x 10% = $1,300

That is the amount that she will include in her gross income.