Issues on the Tax Redemption Memo - Essay Example

By tax purposes, we mean an individual avoiding tax by having the company redeem back the ownership rather than selling it, which will involve some taxes.

In the case of Acme Corporation and its shareholders, the redemption exercise may imply one or more tests, usually referred to as the three major tests. First is the complete redemption test. Here, there will be an absolute redemption of every stock possessed by the shareholder. Second is the substantially disproportionate test where the vending shareholder must not possess as much as 50 percent of the voting power following the redemption exercise. In addition, the owners voting stock in the company need to be not as much as 80 percent of the company’s aggregate voting stock after the redemption exercise. Third is what has been referred to as the “not essentially equivalent to a dividend test” (Ronald, 48).  Here, the implication is that the redemptions need not be equal to the dividend issued by the company. It is important to note that the shareholder’s constructive, direct, and indirect ownership can be considered in the above-explained tests. If a shareholder meets the above tests, the price that the company redeems the ownership will be treated as a normal exchange of sale and this will be recognized as if the owner was only passing this to another person or a third party. If the tests are not met, the company’s redemption price will be taken like the passing was made to another shareholder.

The tax cost of redemption to shareholders does start with if the transaction succeeds for sales or interchanged treatment, also Smith should confirm whether Acme Corporation has accrued return and earnings. If Acme does not have returns and earnings or the company has never acquired another company through merging, which had profit and earnings then the divided treatment cannot come into being from redemption. Normally dividends shared among its shareholders are usually treated as a non-taxable return of capital to the point of accustomed foundation of stock, then capital growth from the estimated nature of stock (Leandra, 87).

Often non-capital gain redemption tax consequences of Acme Corporation shareholders can be more beneficial as compared to top capital gain treatment because shareholders can improve their stock foundations without any capital gains credit. In this case, the net investment income tax, regarded as sale rule can apply to the Acme Corporation recovery that is categorized as an exchange or sale, considered rule of selling will apply as the belongings are held in a business or trade. Therefore, Smith should note that the deemed sale law is put into practice only when there is no business or trade. Secondly, when business or trade is the passive action for the transfer, or, i.e. the reclaimed shareholder, and thirdly, is that the Acme Corporation is involved in business trading or trade as financial instruments (Leandra, 145). Therefore, taking all three considerations, Smith should note that each affects the net gain amount that is included in shareholders' net investment income.