Question

For the scenario below, determine the amount of tax that the shareholder receiving the dividend income must pay on the dividend they receive. All entities below are C corporations. Assume all types of taxable income for a C corporation are taxed at a 21% tax rate.

Trinity Corporation owns 50 percent of Salient Corporation. In Year 1, Salient pays out a total of $2 million in cash dividends to all its shareholders, giving each owner a dividend in proportion to its ownership percentage.

	I.	0 of tax on the dividend
	II.	$73,500 of tax on the dividend
	III.	$105,000 of tax on the dividend
	IV.	None of the above

Answer 1

IV ) none of the above

Distributions of a C corporation's own stock to its shareholders (stock dividends) are generally tax-free to the recipient shareholders (Sec. 305(a)). The term "stock" includes rights to acquire such stock. Tax-free treatment apparently applies to unissued and treasury stock, as well as common, preferred, voting, or nonvoting stock. Despite this general rule, stock dividends can be taxable if (Sec. 305(b)):

• Shareholders have an option to receive cash or other property instead of stock;
• Some shareholders receive cash or other property, and others receive stock and increase their proportionate ownership;
• Some shareholders receive preferred stock while others receive common stock;
• Shareholders receive distributions with respect to preferred stock; or
• Shareholders receive distributions of convertible preferred stock.