Comet Company is owned equally by Pat and his sister Pam, each of whom holds 110 shares in the company. Pam wants to reduce her ownership in the company, and it was decided that the company will redeem 55 of her shares for $1,100 per share on December 31, 20X3. Pam's income tax basis in each share is $550. Comet has total E&P of $255,000. What are the tax consequences to Pam because of the stock redemption?

Question

Quizplus · Accepted Answer

In a stock redemption, the shareholder generally recognizes capital gain to the extent of the amount of cash received in excess of their tax basis in the redeemed shares. Pam will receive $1,100 per share for the 55 shares redeemed which is $550 more than her tax basis of $550 per share. Therefore, Pam will recognize $30,250 ($550 x 55) in capital gain as a result of the redemption. Pam's tax basis in each of her remaining 55 shares will remain at $550. There is no dividend income in this scenario as Comet Company is using its E&P to redeem Pam's shares.

Comet Company Is Owned Equally by Pat and His Sister