AJ owns 1,000 shares of Chicken Corporation voting common stock, which represents 50% of the companys outstanding
Question:
AJ owns 1,000 shares of Chicken Corporation voting common stock, which represents 50% of the company’s outstanding stock. He acquired these shares several years ago, and his stock basis is $20,000. On April 1 of the current year (year 1) Chicken Corp. distributed 1 share of a new class of non-convertible preferred stock for each share of voting common stock held by its shareholders. At the time of this stock distribution, AJ’s shares of Chicken Corp. voting common stock were worth a total of $30,600, while his shares of Chicken Corp. preferred stock were worth a total of $5,400. In the year of distribution (year 1) Chicken Corp. has earnings and profits (E&P) equal to $80,000, without considering any possible effect of the stock distribution. Assume that the April 1 distribution is the only distribution made during the current year (year 1).
Instructions:
A. AJ sells all his shares of Chicken Corp. non-convertible preferred stock to Ben, an unrelated party, for $42,000 on December 15 of the following year (year 2). Chicken Corp. has $90,000 of E&P in year 2. What is the amount and character of income that AJ recognizes on the sale of his preferred stock?
B. Alternatively, assume that Chicken Corp. has $0 of E&P in the year of the preferred stock distribution (year 1) and $90,000 of E&P in year 2. What is the amount and character of income that AJ recognizes on the sale of all his shares of Chicken Corp. non-convertible preferred stock to Ben for $42,000 on December 15 of year 2?
