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Reporting sold DRIP earnings


Dear Tax Talk,
I have been participating in dividend reinvestment for a stock I hold. I understand that because I paid taxes on these dividends when I earned them, they will be used to calculate my basis when I sell. When I do sell the stock, how do I report this? Will I have to make multiple entries on Schedule D, one for the initial purchase and separate entries for each of the quarterly dividend payments that were used to acquire additional stock at different times? Wouldn't those dividends held for less than a year fall into short-term gains, with earlier dividends and original purchase being long-term gains? -- Susanne

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Dear Susanne,
In a dividend reinvestment plan a shareholder elects to purchase additional shares of the dividend-paying company's stock in lieu of receiving the equivalent sum of money. The reinvestment plan generally does not have transaction costs.

The amount of the dividend is subject to income tax even though it was not received. The shareholder is treated as having received the dividend and then acquiring the stock. Thus the cost of the shares acquired is considered to be the amount of dividends received. And the date the dividend was paid is considered the date acquired for purposes of computing the holding period (i.e., long- or short-term capital gain or loss).

In computing gain or loss, it is important to keep track of the dividends reinvested so that you don't end up paying tax twice, once when the dividend was paid and then again on the sale. As an example, suppose you purchased 100 shares originally for $1,000 and that the quarterly dividends of $10 allowed you to acquire one additional share each quarter for three years. After the third year you sell the 112 shares so that the last four shares were held for one year or less. These last shares should be reported on Schedule D as short-term gain and the 108 shares purchased earlier would be reported as long-term gain.

As far as reporting the sale on Schedule D, I would show the sale date and the date acquired as "various," identifying the number of shares that would be treated as long- or short-term gain or loss.

-- Posted: May 13, 2004




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