On January 30, Juan receives a nontaxable distribution of stock rights from Platinum Corporation. Each right entitles the holder to purchase one share of stock for $40. One right is issued for every share of stock owned. Juan owns 100 shares of stock purchased two years ago for $4,000. At the date of distribution, the rights are worth $1,000 (100 rights at $10 per right) and Juan's stock in Platinum is worth $5,000 (or $50 per share). On December 1, Juan sells all 100 stock rights for $12 per right. How much gain does Juan recognize on the sale?
A) $1,200
B) $533
C) $400
D) $0
E) None of the above

Question

Quizplus · Accepted Answer

Juan received 100 stock rights with a fair market value of $10 each, which means Juan received $1,000 in stock rights ($10 x 100 rights). However, since the distribution was nontaxable, Juan's basis in the stock does not change. Therefore, Juan's basis in each right is $0.

When Juan sells the 100 stock rights for $12 per right, he receives $1,200 ($12 x 100 rights) in cash. To calculate the gain, we need to compare the amount of cash received to the basis in the stock rights, which is $0. Therefore, Juan recognizes a gain of $1,200 on the sale of the stock rights. However, this gain is nontaxable since the distribution of the stock rights was nontaxable.

Note: If the stock rights were not nontaxable, Juan's basis in the stock rights would be $10 per right ($1,000 ÷ 100 rights), and his gain on the sale would be $200 ($2 gain per right x 100 rights).

On January 30, Juan Receives a Nontaxable Distribution of Stock