Paula owns stock in Yellow, Inc., which she purchased for $5,000. The stock has a fair market value of $6,000. Because Yellow is experiencing a cash flow problem, it chooses to distribute nontaxable stock rights instead of cash to its shareholders.
a. What effect does this distribution have on Paula’s basis in her Yellow stock if the fair market value of the stock rights is $1,000?
b. What is Paula’s basis for the nontaxable stock rights?
c. What is Paula’s recognized gain or loss if she sells the stock rights for $1,200?
d. What is Paula’s recognized gain or loss if she allows the stock rights to lapse?
e. If the fair market value of the stock rights is $750 (not $1,000), how will this change the answers to parts (a) and (b)?