How will stock dividends affect my taxes?
December 10, 1998
Subject: Stock dividends
Date: Fri, 19 Nov 1999
My company went public in October. Right before the IPO, the board of directors declared a 5-for-4 stock dividend for shareholders of record a day before the IPO. The company lawyers say that for tax purposes, this “stock dividend” is actually a stock split, and therefore I won’t be taxed on it. I’ve heard of cash dividends and stock splits, but never stock dividends that are treated like stock splits for tax purposes. How can I be sure I won’t be hit with a big tax bill?
According to Internal Revenue Code Section 305(a), most stock dividends are non-taxable. You pro-rate your tax basis for the shares you previously owned over the new total shares. For example, if you had an $1,000 tax basis for 400 shares ($2.50 per share) and received a 25% stock dividend (100 shares), your new tax basis would be $1,000 / 500 = $2.00 per share. The holding period from your existing shares is also assigned to the shares received, like in a stock split.