Question

Steve has a capital loss carryover in the current year of $25,000. He owns 3,000 shares of stock in Carmine Corporation, which he purchased six years ago for $35 per share. In the current year, Carmine Corporation (E & P of $750,000) redeems all of his shares for $150,000. Steve is in the 35% tax bracket. What is his income tax liability with respect to the corporate distribution if:

          a. The redemption qualifies for sale or exchange treatment, and Steve has no other

              transactions in the current year involving capital assets.

          b. The redemption does not qualify for sale or exchange treatment?

Answer 1

a)

Steve will have a capital gain of $45,000 on the redemption [$150,000 (amount realized) – $105,000 (stock basis)]. Steve can offset the $25,000 capital loss carryover against the $45,000 of capital gain. Hisincome tax liability on the remaining $20,000 gain will be $3,000 ($20,000 ´ 15%)

b)

If the redemption distribution does not qualify for sale or exchange treatment, the entire $150,000 will betaxed as a dividend at 15%, producing a tax of $22,500. With no other capital gain transactions in thecurrent year, Steve can deduct only $3,000 of the $25,000 capital loss carryover to offset his other(ordinary) income.