A C Corporation redeems 50% of Shareholder X's stock for 0,000. Shareholder X's basis in the redeemed stock was ,000. After the redemption, X owns 40% of the corporation (down from 60%). How is this transaction treated for Shareholder X?

Answer options:

Dividend of 0,000

Sale or Exchange (Capital Gain of ,000)

Dividend of ,000

Sale or Exchange (Capital Gain of 0,000)

How to approach this question

Test for Sale treatment: 1. <50% ownership after? 2. <80% of prior ownership percentage? If yes -> Capital Gain. If no -> Dividend.

Full Answer

B.Sale or Exchange (Capital Gain of ,000)✓ Correct

Sale or Exchange (Capital Gain of ,000)

The redemption qualifies as substantially disproportionate under §302(b)(2). Ownership went from 60% to 40%. 40% is less than 50%, and 40% is less than 80% of the starting 60% (48%). Thus, it is treated as a sale/exchange.

Common mistakes

Treating stock redemptions automatically as dividends.

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