Question

During the current year, Gnatcatcher, Inc., (E & P of $1,950,000) distributed $510,000 each to Brandi and Yuen in redemption of some of their Gnatcatcher stock. The two shareholders acquired their shares five years ago. Each shareholder is in the 32% tax bracket, and each had a $127,500 basis in the redeemed stock. Assume taxpayers in the 32% tax bracket are subject to the long-term capital gains and qualified dividends tax rate of 15%

Answer 1

Since the amount is paid out of E&P and also even after redemption they have some stock of gnatcatcher inc. hence it will be considered as qualified dividend and not capital gain.

Also there is no deduction of tax basis in qualified dividend available. Hence full amount of dividend received will be taxable @ 15%. Hence liability for each shareholder will be

= $510000*15%

= $76500

Note - if this redemption is considered as stock sale then taxable amount would have been

= $510000 - $127500

= $382500

Hence in that case tax liability would have been

= $382500*15%

=$57375