Stripped Preferred Stock

If the dividend rights are stripped from certain preferred stock, the holder of the stripped preferred stock may have to include amounts in income equal to the amounts that would have been included if the stock were a bond with original issue discount (OID).

Stripped preferred stock defined. Stripped preferred stock is any stock that meets both of the following tests.

1. There has been a separation in ownership between the stock and any dividend on the stock that has not become payable.
2. The stock:
1. Is limited and preferred as to dividends,
2. Does not participate in corporate growth to any significant extent, and
3. Has a fixed redemption price.

Treatment of buyer. If you buy stripped preferred stock after April 30, 1993, you must include certain amounts in your gross income while you hold the stock. These amounts are ordinary income. They are equal to the amounts you would have included in gross income if the stock were a bond that:

1. Was issued on the purchase date of the stock, and
2. Has OID equal to:
1. The redemption price for the stock, minus
2. The price at which you bought the stock.

Report these amounts as other income on line 21 of Form 1040. For information about OID, see Original Issue Discount (OID), earlier.

This treatment also applies to you if you acquire the stock in such a way (for example, by gift) that your basis in the stock is determined by using a buyer's basis.

Treatment of person stripping stock. If you strip the rights to one or more dividends from stripped preferred stock, you are treated as having purchased the stock. You are treated as making the purchase on the date you disposed of the dividend rights. Your adjusted basis in the stripped preferred stock is treated as your purchase price. The rules described in Treatment of buyer, earlier, apply to you.

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