29 Aug More on calculating tax on a stock swap

Q. I have more questions about the Reynolds/BAT merger. In 2003 I had 100 Reynolds shares and a cost basis of $2813.50. After three 2-for-1 splits, I had 800 shares at the time of the merger. My merger was based on 800 shares but my cost basis is still $2813.50, which would be an enormous capital gain. Is that correct? Second, I received cash in lieu of a fractional BAT share. Do I include this with the cash portion of my merger proceeds when I calculate the capital gain?
— Puzzled Stockholder

A. So our readers can catch up, here was our original story about the Reynolds/BAT merger.

The merger transaction effectively resulted in a disposal of the Reynolds American, Inc. (RAI) shares.

This is a taxable transaction, said Lauren Mazzella Landolfi, a certified public accountant with Wilkin & Guttenplan in East Brunswick.

She said the cost basis of the shares will include the original purchase prices plus any reinvested dividends.

“When a stock split occurs, to total shares increase and the cost basis per share is diluted,” she said. “As you stated, the initial cost basis per share was $28.135.”

Following the history, in 2006, there was a 2-for-1 split, meaning for every share you owned you received two and your cost basis per share was cut in half to $14.0675, she said. By the time the third split occurred, your cost basis per share had also been split to around $3.52 per share.

Your total proceeds are indeed significant when you consider both the cash received and the shares of British American Tobacco, PLC (BAT). This represents the appreciation of the value over the holding period and will be subject to tax in 2017, Landolfi said.

“Because the securities were held for greater than one year, you will benefit from the favorable long-term capital gains rates,” she said. “Depending on your personal tax situation, though, the payment of the tax may not be due until April, 2018, when your 2017 income tax return is due.”

She said the amount due depends on a variety of factors including your regular tax bracket, your other sources of income and the state in which you live.

There is some potential tax planning that can be done to mitigate this tax liability.

“Now is a great time to `clean house’ with respect to your investment portfolio,” she said. “If you are holding any stocks that are in a loss position you can harvest the losses to offset the capital gains – meaning sell any shares that have lost value since the initial purchase.”

That’s because capital losses directly offset capital gains and to the extent you have substantial capital losses, you may be able to eliminate the gain entirely.

Landolfi said there are some limitations on the amount of losses deductible against other types of income, such as wages, interest income, retirement income and more.

Plus, it’s important to be aware of “wash sale” rules because they could result in a harvested loss not being deductible.

On your second question, Landolfi said the cash you received for the fractional shares is considered part of the proceeds when the gain is calculated.

“No further adjustment will be needed,” she said. “The cost basis of the shares you now own in BAT will be equal to $69.25 per share of BAT received.”

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This post was originally published in August 2017.