Question

Please write a letter to your client in your own words explaining the consequences to the Corporation AND to the shareholder.

Sunergos Corporation wants to transfer cash of $150,000 or property of $150,000 to one of its main shareholders, Susan, in a redemption transaction that is a qualified stock redemption. Susan owns 1,000 shares of stock with a basis of $50,000 and FMV of $150,000. The company has two assets, each worth $150,000 that are no longer needed in the business. Property 1-basis of $75,000 and Property 2-basis of $195,000. So you are asked to research and answer what are the consequences to the company if they redeem the $150,000 in each of the following: a. cash, b. Property 1 and c. Property 2. Also, explain the tax consequences for Susan the shareholder as well.

Answer 1

When a corporation redeems substantial amount of shares from its shareholder, it is coinsidered as disproportional stock redemption.

In disproportional stock redemption, the redemption is treated as sale of shares

• The corporation recognizes the gain on sale of appreciated property, however loss is recognized only in the event of liquidation
• Shareholder recognizes the gain/ loss on the sale as capital gain / capital loss  

a. When Sunergos Corporation is distributing cash to its shareholder  

• No gain or loss is recognized by the corporation.
• Shareholder recognizes a capital gain on sale of share = Cash received - Cost of shares = 150,000 - 50,000 = 100,000

b. When Sunergos Corporation is distributing Property 1 with basis 75,000 and fair value 150,000 to its shareholder.

• Corporation regonizes the gain on appreciated property = 150,000 - 75,000 = 75,000
• Shareholder recognizes a capital gain of share = Cash received - Cost of shares = 150,000 - 50,000 = 100,000

c. When Sunergos Corporation is distributing Property 2 with basis 195,000 and fair value 150,000 to its shareholder.

• Corporation does not regonize any loss on the property.
• Shareholder recognizes a capital gain of share = Cash received - Cost of shares = 150,000 - 50,000 = 100,000