
From the U.S. Code Online via GPO Access
[wais.access.gpo.gov]
[Laws in effect as of January 2, 2001]
[Document not affected by Public Laws enacted between
  January 2, 2001 and January 28, 2002]
[CITE: 26USC1059]

 
                     TITLE 26--INTERNAL REVENUE CODE
 
                        Subtitle A--Income Taxes
 
                  CHAPTER 1--NORMAL TAXES AND SURTAXES
 
          Subchapter O--Gain or Loss on Disposition of Property
 
                         PART IV--SPECIAL RULES
 
Sec. 1059. Corporate shareholder's basis in stock reduced by 
        nontaxed portion of extraordinary dividends
        

(a) General rule

    If any corporation receives any extraordinary dividend with respect 
to any share of stock and such corporation has not held such stock for 
more than 2 years before the dividend announcement date--

                       (1) Reduction in basis

        The basis of such corporation in such stock shall be reduced 
    (but not below zero) by the nontaxed portion of such dividends.

                   (2) Amounts in excess of basis

        If the nontaxed portion of such dividends exceeds such basis, 
    such excess shall be treated as gain from the sale or exchange of 
    such stock for the taxable year in which the extraordinary dividend 
    is received.

(b) Nontaxed portion

    For purposes of this section--

                           (1) In general

        The nontaxed portion of any dividend is the excess (if any) of--
            (A) the amount of such dividend, over
            (B) the taxable portion of such dividend.

                         (2) Taxable portion

        The taxable portion of any dividend is--
            (A) the portion of such dividend includible in gross income, 
        reduced by
            (B) the amount of any deduction allowable with respect to 
        such dividend under section 243, 244, or 245.

(c) Extraordinary dividend defined

    For purposes of this section--

                           (1) In general

        The term ``extraordinary dividend'' means any dividend with 
    respect to a share of stock if the amount of such dividend equals or 
    exceeds the threshold percentage of the taxpayer's adjusted basis in 
    such share of stock.

                      (2) Threshold percentage

        The term ``threshold percentage'' means--
            (A) 5 percent in the case of stock which is preferred as to 
        dividends, and
            (B) 10 percent in the case of any other stock.

                    (3) Aggregation of dividends

        (A) Aggregation within 85-day period

            All dividends--
                (i) which are received by the taxpayer (or a person 
            described in subparagraph (C)) with respect to any share of 
            stock, and
                (ii) which have ex-dividend dates within the same period 
            of 85 consecutive days,

        shall be treated as 1 dividend.

        (B) Aggregation within 1 year where dividends exceed 20 percent 
                of adjusted basis

            All dividends--
                (i) which are received by the taxpayer (or a person 
            described in subparagraph (C)) with respect to any share of 
            stock, and
                (ii) which have ex-dividend dates during the same period 
            of 365 consecutive days,

        shall be treated as extraordinary dividends if the aggregate of 
        such dividends exceeds 20 percent of the taxpayer's adjusted 
        basis in such stock (determined without regard to this section).

        (C) Substituted basis transactions

            In the case of any stock, a person is described in this 
        subparagraph if--
                (i) the basis of such stock in the hands of such person 
            is determined in whole or in part by reference to the basis 
            of such stock in the hands of the taxpayer, or
                (ii) the basis of such stock in the hands of the 
            taxpayer is determined in whole or in part by reference to 
            the basis of such stock in the hands of such person.

                 (4) Fair market value determination

        If the taxpayer establishes to the satisfaction of the Secretary 
    the fair market value of any share of stock as of the day before the 
    ex-dividend date, the taxpayer may elect to apply paragraphs (1) and 
    (3) by substituting such value for the taxpayer's adjusted basis.

(d) Special rules

    For purposes of this section--

                       (1) Time for reduction

        Any reduction in basis under subsection (a)(1) shall be treated 
    as occurring at the beginning of the ex-dividend date of the 
    extraordinary dividend to which the reduction relates.

                      (2) Distributions in kind

        To the extent any dividend consists of property other than cash, 
    the amount of such dividend shall be treated as the fair market 
    value of such property (as of the date of the distribution) reduced 
    as provided in section 301(b)(2).

                 (3) Determination of holding period

        For purposes of determining the holding period of stock under 
    subsection (a), rules similar to the rules of paragraphs (3) and (4) 
    of section 246(c) shall apply; except that ``2 years'' shall be 
    substituted for the number of days specified in subparagraph (B) \1\ 
    of section 246(c)(3).
---------------------------------------------------------------------------
    \1\ See References in Text note below.
---------------------------------------------------------------------------

                        (4) Ex-dividend date

        The term ``ex-dividend date'' means the date on which the share 
    of stock becomes ex-dividend.

                   (5) Dividend announcement date

        The term ``dividend announcement date'' means, with respect to 
    any dividend, the date on which the corporation declares, announces, 
    or agrees to the amount or payment of such dividend, whichever is 
    the earliest.

     (6) Exception where stock held during entire existence of 
                                 corporation

        (A) In general

            Subsection (a) shall not apply to any extraordinary dividend 
        with respect to any share of stock of a corporation if--
                (i) such stock was held by the taxpayer during the 
            entire period such corporation was in existence, and
                (ii) except as provided in regulations, no earnings and 
            profits of such corporation were attributable to transfers 
            of property from (or earnings and profits of) a corporation 
            which is not a qualified corporation.

        (B) Qualified corporation

            For purposes of subparagraph (A), the term ``qualified 
        corporation'' means any corporation (including a predecessor 
        corporation)--
                (i) with respect to which the taxpayer holds directly or 
            indirectly during the entire period of such corporation's 
            existence at least the same ownership interest as the 
            taxpayer holds in the corporation distributing the 
            extraordinary dividend, and
                (ii) which has no earnings and profits--
                    (I) which were earned by, or
                    (II) which are attributable to gain on property 
                which accrued during a period the corporation holding 
                the property was,

          a corporation not described in clause (i).

        (C) Application of paragraph

            This paragraph shall not apply to any extraordinary dividend 
        to the extent such application is inconsistent with the purposes 
        of this section.

(e) Special rules for certain distributions

         (1) Treatment of partial liquidations and certain 
                                 redemptions

        Except as otherwise provided in regulations--

        (A) Redemptions

            In the case of any redemption of stock--
                (i) which is part of a partial liquidation (within the 
            meaning of section 302(e)) of the redeeming corporation,
                (ii) which is not pro rata as to all shareholders, or
                (iii) which would not have been treated (in whole or in 
            part) as a dividend if--
                    (I) any options had not been taken into account 
                under section 318(a)(4), or
                    (II) section 304(a) had not applied,

        any amount treated as a dividend with respect to such redemption 
        shall be treated as an extraordinary dividend to which 
        paragraphs (1) and (2) of subsection (a) apply without regard to 
        the period the taxpayer held such stock. In the case of a 
        redemption described in clause (iii), only the basis in the 
        stock redeemed shall be taken into account under subsection (a).

        (B) Reorganizations, etc.

            An exchange described in section 356 which is treated as a 
        dividend shall be treated as a redemption of stock for purposes 
        of applying subparagraph (A).

                      (2) Qualifying dividends

        (A) In general

            Except as provided in regulations, the term ``extraordinary 
        dividend'' does not include any qualifying dividend (within the 
        meaning of section 243).

        (B) Exception

            Subparagraph (A) shall not apply to any portion of a 
        dividend which is attributable to earnings and profits which--
                (i) were earned by a corporation during a period it was 
            not a member of the affiliated group, or
                (ii) are attributable to gain on property which accrued 
            during a period the corporation holding the property was not 
            a member of the affiliated group.

                  (3) Qualified preferred dividends

        (A) In general

            In the case of 1 or more qualified preferred dividends with 
        respect to any share of stock--
                (i) this section shall not apply to such dividends if 
            the taxpayer holds such stock for more than 5 years, and
                (ii) if the taxpayer disposes of such stock before it 
            has been held for more than 5 years, the aggregate reduction 
            under subsection (a)(1) with respect to such dividends shall 
            not be greater than the excess (if any) of--
                    (I) the qualified preferred dividends paid with 
                respect to such stock during the period the taxpayer 
                held such stock, over
                    (II) the qualified preferred dividends which would 
                have been paid during such period on the basis of the 
                stated rate of return.

        (B) Rate of return

            For purposes of this paragraph--
            (i) Actual rate of return

                The actual rate of return shall be the rate of return 
            for the period for which the taxpayer held the stock, 
            determined--
                    (I) by only taking into account dividends during 
                such period, and
                    (II) by using the lesser of the adjusted basis of 
                the taxpayer in such stock or the liquidation preference 
                of such stock.
            (ii) Stated rate of return

                The stated rate of return shall be the annual rate of 
            the qualified preferred dividend payable with respect to any 
            share of stock (expressed as a percentage of the amount 
            described in clause (i)(II)).

        (C) Definitions and special rules

            For purposes of this paragraph--
            (i) Qualified preferred dividend

                The term ``qualified preferred dividend'' means any 
            fixed dividend payable with respect to any share of stock 
            which--
                    (I) provides for fixed preferred dividends payable 
                not less frequently than annually, and
                    (II) is not in arrears as to dividends at the time 
                the taxpayer acquires the stock.

          Such term shall not include any dividend payable with respect 
            to any share of stock if the actual rate of return on such 
            stock exceeds 15 percent.
            (ii) Holding period

                In determining the holding period for purposes of 
            subparagraph (A)(ii), subsection (d)(3) shall be applied by 
            substituting ``5 years'' for ``2 years''.

(f) Treatment of dividends on certain preferred stock

                           (1) In general

        Any dividend with respect to disqualified preferred stock shall 
    be treated as an extraordinary dividend to which paragraphs (1) and 
    (2) of subsection (a) apply without regard to the period the 
    taxpayer held the stock.

                  (2) Disqualified preferred stock

        For purposes of this subsection, the term ``disqualified 
    preferred stock'' means any stock which is preferred as to dividends 
    if--
            (A) when issued, such stock has a dividend rate which 
        declines (or can reasonably be expected to decline) in the 
        future,
            (B) the issue price of such stock exceeds its liquidation 
        rights or its stated redemption price, or
            (C) such stock is otherwise structured--
                (i) to avoid the other provisions of this section, and
                (ii) to enable corporate shareholders to reduce tax 
            through a combination of dividend received deductions and 
            loss on the disposition of the stock.

(g) Regulations

    The Secretary shall prescribe such regulations as may be appropriate 
to carry out the purposes of this section, including regulations--
        (1) providing for the application of this section in the case of 
    stock dividends, stock splits, reorganizations, and other similar 
    transactions, in the case of stock held by pass-thru entities, and 
    in the case of consolidated groups, and
        (2) providing that the rules of subsection (f) shall apply in 
    the case of stock which is not preferred as to dividends in cases 
    where stock is structured to avoid the purposes of this section.

(Added Pub. L. 98-369, div. A, title I, Sec. 53(a), July 18, 1984, 98 
Stat. 565; amended Pub. L. 99-514, title VI, Sec. 614(a)-(e), Oct. 22, 
1986, 100 Stat. 2251-2253; Pub. L. 100-647, title I, Sec. 1006(c), Nov. 
10, 1988, 102 Stat. 3393; Pub. L. 101-239, title VII, Sec. 7206(a), Dec. 
19, 1989, 103 Stat. 2336; Pub. L. 105-34, title X, Secs. 1011(a)-(c), 
1013(b), title XVI, Sec. 1604(d)(1), Aug. 5, 1997, 111 Stat. 912, 913, 
918, 1098; Pub. L. 105-206, title VI, Sec. 6010(b), July 22, 1998, 112 
Stat. 813.)

                       References in Text

    Section 246(c)(3) of this title, referred to in subsec. (d)(3), was 
amended by Pub. L. 105-34, title X, Sec. 1015(b)(2), Aug. 5, 1997, 111 
Stat. 922, by striking out subpar. (B) and redesignating subpar. (C) as 
(B).


                            Prior Provisions

    A prior section 1059 was renumbered section 1061 of this title.


                               Amendments

    1998--Subsec. (g)(1). Pub. L. 105-206 substituted ``, in the case of 
stock held by pass-thru entities, and in the case of consolidated 
groups'' for ``and in the case of stock held by pass-thru entities''.
    1997--Subsec. (a)(2). Pub. L. 105-34, Sec. 1011(a), amended heading 
and text of par. (2) generally. Prior to amendment, text read as 
follows: ``In addition to any gain recognized under this chapter, there 
shall be treated as gain from the sale or exchange of any stock for the 
taxable year in which the sale or disposition of such stock occurs an 
amount equal to the aggregate nontaxed portions of any extraordinary 
dividends with respect to such stock which did not reduce the basis of 
such stock by reason of the limitation on reducing basis below zero.''
    Subsec. (d)(1). Pub. L. 105-34, Sec. 1011(c), amended heading and 
text of par. (1) generally. Prior to amendment, text read as follows:
    ``(A) In general.--Except as provided in subparagraph (B), any 
reduction in basis under subsection (a)(1) shall occur immediately 
before any sale or disposition of the stock.
    ``(B) Special rule for computing extraordinary dividend.--In 
determining a taxpayer's adjusted basis for purposes of subsection 
(c)(1), any reduction in basis under subsection (a)(1) by reason of a 
prior distribution which was an extraordinary dividend shall be treated 
as occurring at the beginning of the ex-dividend date for such 
distribution.''
    Subsec. (d)(3). Pub. L. 105-34, Sec. 1604(d)(1), substituted 
``subsection (a)'' for ``subsection (a)(2)''.
    Subsec. (e)(1). Pub. L. 105-34, Sec. 1011(b), amended heading and 
text of par. (1) generally. Prior to amendment, text read as follows: 
``Except as otherwise provided in regulations, in the case of any 
redemption of stock which is--
        ``(A) part of a partial liquidation (within the meaning of 
    section 302(e)) of the redeeming corporation, or
        ``(B) not pro rata as to all shareholders,
any amount treated as a dividend under section 301 with respect to such 
redemption shall be treated as an extraordinary dividend to which 
paragraphs (1) and (2) of subsection (a) apply without regard to the 
period the taxpayer held such stock.''
    Subsec. (e)(1)(A)(iii). Pub. L. 105-34, Sec. 1013(b), amended cl. 
(iii) generally. Prior to amendment, cl. (iii) read as follows: ``which 
would not have been treated (in whole or in part) as a dividend if any 
options had not been taken into account under section 318(a)(4).''
    1989--Subsecs. (f), (g). Pub. L. 101-239 added subsecs. (f) and (g) 
and struck out former subsec. (f) which read as follows: 
``Regulations.--The Secretary shall prescribe such regulations as may be 
appropriate to carry out the purposes of this section, including 
regulations providing for the application of this section in the case of 
stock dividends, stock splits, reorganizations, and other similar 
transactions and in the case of stock held by pass-thru entities.''
    1988--Subsec. (d)(5). Pub. L. 100-647, Sec. 1006(c)(2), inserted 
``amount or'' after ``agrees to the''.
    Pub. L. 100-647, Sec. 1006(c)(1), redesignated par. (6) as (5) and 
struck out former par. (5) which related to extension to certain 
property distributions.
    Subsec. (d)(6). Pub. L. 100-647, Sec. 1006(c)(3), amended par. (6) 
generally. Prior to amendment, par. (6) read as follows: ``Subsection 
(a) shall not apply to any extraordinary dividend with respect to any 
share of stock of a corporation if--
        ``(A) such stock was held by the taxpayer during the entire 
    period such corporation (and any precedessor [sic] corporation) was 
    in existence,
        ``(B) except as provided in regulations, the only earnings and 
    profits of such corporation were earnings and profits accumulated by 
    such corporation (or any predecessor corporation) during such 
    period, and
        ``(C) the application of this paragraph to such dividend is not 
    inconsistent with the purposes of this section.''
    Pub. L. 100-647, Sec. 1006(c)(1), redesignated par. (7) as (6). 
Former par. (6) redesignated (5).
    Subsec. (d)(7). Pub. L. 100-647, Sec. 1006(c)(1), redesignated par. 
(7) as (6).
    Subsec. (e)(1). Pub. L. 100-647, Sec. 1006(c)(4), substituted ``to 
which paragraphs (1) and (2) of subsection (a) apply without regard to 
the period the taxpayer held such stock'' for ``for purposes of this 
section (without regard to the holding period of the stock)''.
    Subsec. (e)(2). Pub. L. 100-647, Sec. 1006(c)(5), amended par. (2) 
generally. Prior to amendment, par. (2) read as follows: ``Except as 
provided in regulations, the term `extraordinary dividend' shall not 
include any qualifying dividend (within the meaning of section 
243(b)(1)).''
    Subsec. (e)(3)(A). Pub. L. 100-647, Sec. 1006(c)(6), amended subpar. 
(A) generally. Prior to amendment, subpar. (A) read as follows: ``A 
qualified preferred dividend shall be treated as an extraordinary 
dividend--
        ``(i) only if the actual rate of return of the taxpayer on the 
    stock with respect to which such dividend was paid exceeds 15 
    percent, or
        ``(ii) if clause (i) does not apply, and the taxpayer disposes 
    of such stock before the taxpayer has held such stock for more than 
    5 years, only to the extent the actual rate of return exceeds the 
    stated rate of return.''
    Subsec. (e)(3)(B). Pub. L. 100-647, Sec. 1006(c)(8)(A), which 
directed the amendment of subpar. (B) ``by striking out `subparagraph 
(A)' and the material preceding clause (i) and inserting in lieu thereof 
`this paragraph' '', was executed by striking out ``subparagraph (A)'' 
in the material preceding clause (i) and inserting in lieu thereof 
``this paragraph'', to reflect the probable intent of Congress.
    Subsec. (e)(3)(B)(ii). Pub. L. 100-647, Sec. 1006(c)(8)(B), 
substituted ``clause (i)(II)'' for ``subparagraph (B)(i)(II)''.
    Subsec. (e)(3)(C)(i). Pub. L. 100-647, Sec. 1006(c)(7), inserted 
``fixed'' before ``dividend payable'' in introductory provisions and 
inserted at end ``Such term shall not include any dividend payable with 
respect to any share of stock if the actual rate of return on such stock 
exceeds 15 percent.''
    Subsec. (f). Pub. L. 100-647, Sec. 1006(c)(9), inserted ``and in the 
case of stock held by pass-thru entities'' after ``other similar 
transactions''.
    1986--Subsec. (a). Pub. L. 99-514, Sec. 614(a)(1), amended subsec. 
(a) generally. Prior to amendment, subsec. (a) read as follows: ``If any 
corporation--
        ``(1) receives an extraordinary dividend with respect to any 
    share of stock, and
        ``(2) sells or otherwise disposes of such stock before such 
    stock has been held for more than 1 year,
the basis of such corporation in such stock shall be reduced by the 
nontaxed portion of such dividend. If the nontaxed portion of such 
dividend exceeds such basis, such excess shall be treated as gain from 
the sale or exchange of such stock.''
    Subsec. (c)(1). Pub. L. 99-514, Sec. 614(c)(2), struck out 
``(determined without regard to this section)'' after ``such share of 
stock''.
    Subsec. (c)(4). Pub. L. 99-514, Sec. 614(b), added par. (4).
    Subsec. (d)(1). Pub. L. 99-514, Sec. 614(c)(1), amended par. (1) 
generally. Prior to amendment, par. (1) read as follows: ``Any reduction 
in basis under subsection (a) by reason of any distribution which is an 
extraordinary dividend shall occur at the beginning of the ex-dividend 
date for such distribution.''
    Subsec. (d)(3). Pub. L. 99-514, Sec. 614(a)(3), substituted ``2 
years'' for ``1 year''.
    Subsec. (d)(6). Pub. L. 99-514, Sec. 614(a)(2), added par. (6).
    Subsec. (d)(7). Pub. L. 99-514, Sec. 614(d), added par. (7).
    Subsecs. (e), (f). Pub. L. 99-514, Sec. 614(e), added subsec. (e) 
and redesignated former subsec. (e) as (f).


                    Effective Date of 1998 Amendment

    Amendment by Pub. L. 105-206 effective, except as otherwise 
provided, as if included in the provisions of the Taxpayer Relief Act of 
1997, Pub. L. 105-34, to which such amendment relates, see section 6024 
of Pub. L. 105-206, set out as a note under section 1 of this title.


                    Effective Date of 1997 Amendment

    Section 1011(d) of Pub. L. 105-34 provided that:
    ``(1) In general.--The amendments made by this section [amending 
this section] shall apply to distributions after May 3, 1995.
    ``(2) Transition rule.--The amendments made by this section shall 
not apply to any distribution made pursuant to the terms of--
        ``(A) a written binding contract in effect on May 3, 1995, and 
    at all times thereafter before such distribution, or
        ``(B) a tender offer outstanding on May 3, 1995.
    ``(3) Certain dividends not pursuant to certain redemptions.--In 
determining whether the amendment made by subsection (a) applies to any 
extraordinary dividend other than a dividend treated as an extraordinary 
dividend under section 1059(e)(1) of the Internal Revenue Code of 1986 
(as amended by this Act), paragraphs (1) and (2) shall be applied by 
substituting `September 13, 1995' for `May 3, 1995'.''
    Amendment by section 1013(b) of Pub. L. 105-34 applicable to 
distributions and acquisitions after June 8, 1997, with certain 
exceptions, see section 1013(d) of Pub. L. 105-34, set out as a note 
under section 304 of this title.


                    Effective Date of 1989 Amendment

    Section 7206(b) of Pub. L. 101-239 provided that:
    ``(1) In general.--Except as provided in paragraph (2), the 
amendment made by subsection (a) [amending this section] shall apply to 
stock issued after July 10, 1989, in taxable years ending after such 
date.
    ``(2) Binding contract.--The amendment made by subsection (a) shall 
not apply to any stock issued pursuant to a written binding contract in 
effect on July 10, 1989, and at all times thereafter before the stock is 
issued.''


                    Effective Date of 1988 Amendment

    Amendment by Pub. L. 100-647 effective, except as otherwise 
provided, as if included in the provision of the Tax Reform Act of 1986, 
Pub. L. 99-514, to which such amendment relates, see section 1019(a) of 
Pub. L. 100-647, set out as a note under section 1 of this title.


                    Effective Date of 1986 Amendment

    Section 614(f) of Pub. L. 99-514 provided that:
    ``(1) In general.--Except as provided in this subsection, the 
amendments made by this section [amending this section] shall apply to 
dividends declared after July 18, 1986, in taxable years ending after 
such date.
    ``(2) Aggregation.--For purposes of section 1059(c)(3) of the 
Internal Revenue Code of 1986, dividends declared after July 18, 1986, 
shall not be aggregated with dividends declared on or before July 18, 
1986.
    ``(3) Redemptions.--Section 1059(e)(1) of the Internal Revenue Code 
of 1986 (as added by subsection (e)) shall apply to dividends declared 
after the date of the enactment of this Act [Oct. 22, 1986], in taxable 
years ending after such date.''


                             Effective Date

    Section 53(e) of Pub. L. 98-369, as amended by Pub. L. 99-514, 
Sec. 2, title XVIII, Sec. 1804(b)(2), Oct. 22, 1986, 100 Stat. 2095, 
2798, provided that:
    ``(1) In general.--Except as provided in this subsection, the 
amendments made by this section [enacting this section and amending 
sections 246, 1016, and 7701 of this title] shall apply to distributions 
after March 1, 1984, in taxable years ending after such date.
    ``(2) Subsection (b).--The amendments made by subsection (b) 
[amending section 246 of this title] shall apply to stock acquired after 
the date of the enactment of this Act [July 18, 1984] in taxable years 
ending after such date.
    ``(3) Related person provisions.--
        ``(A) In general.--Except as otherwise provided in subparagraph 
    (B), the amendment made by subsection (c) [amending section 7701 of 
    this title] shall take effect on July 18, 1984.
        ``(B) Special rule for purposes of section 265(2).--The 
    amendment made by subsection (c) insofar as it relates to section 
    265(2) of the Internal Revenue Code of 1986 [formerly I.R.C. 1954] 
    shall apply to--
            ``(i) term loans made after July 18, 1984, and
            ``(ii) demand loans outstanding after July 18, 1984 (other 
        than any loan outstanding on July 18, 1984, and repaid before 
        September 18, 1984).
        ``(C) Treatment of renegotiations, etc.--For purposes of this 
    paragraph, any loan renegotiated, extended, or revised after July 
    18, 1984, shall be treated as a loan made after such date.
        ``(D) Definition of term and demand loans.--For purposes of this 
    paragraph, the terms `demand loan' and `term loan' have the 
    respective meanings given such terms by paragraphs (5) and (6) of 
    section 7872(f) of the Internal Revenue Code of 1986 [formerly 
    I.R.C. 1954], except that the second sentence of such paragraph (5) 
    shall not apply.''

                  Section Referred to in Other Sections

    This section is referred to in sections 246, 263, 1016 of this 
title; title 29 section 1343.
