What Is the Excise Tax on Stock Buybacks?
Explore the mechanics of the 1% stock buyback tax. The final liability is based on a net value, reduced by stock issuances and other key adjustments.
The Inflation Reduction Act of 2022 introduced a 1% excise tax on the net value of stock repurchases by certain corporations. This tax, under new IRC Section 4501, applies to stock buybacks occurring after December 31, 2022. The tax is levied on the fair market value of the stock a publicly traded U.S. corporation buys back from its shareholders during its taxable year.
Corporations and Transactions Subject to the Tax
The stock buyback tax applies to a “covered corporation,” which is any domestic corporation whose stock is traded on an established securities market. The rules also extend to certain U.S. subsidiaries of publicly traded foreign corporations. If a U.S.-based affiliate of a foreign company buys back stock of its foreign parent, that transaction can be subject to the tax.
A “repurchase” is broadly defined and includes open-market stock buybacks and economically similar transactions. This includes redemptions, where a corporation acquires its stock from a shareholder for property, as defined under Section 317 of the Internal Revenue Code.
Several statutory exemptions can remove a transaction from the tax. An exemption is the $1 million de minimis threshold; if the total fair market value of a corporation’s repurchases within a taxable year is $1 million or less, the tax does not apply. The tax also does not apply to real estate investment trusts (REITs) or regulated investment companies (RICs). Certain types of transactions are also explicitly excluded, such as repurchases that are part of a tax-free corporate reorganization.
Calculating the Tax Liability
The calculation of the stock buyback excise tax begins with the aggregate fair market value (FMV) of all stock a company repurchased during its taxable year. The FMV is determined on the date the stock is repurchased. A central feature of the tax is the “netting rule,” which allows corporations to reduce their taxable base. Under this rule, the initial aggregate FMV of repurchased stock is reduced by the aggregate FMV of any stock the corporation issued during the same taxable year, including stock issued to employees as compensation or sold in public offerings.
Beyond the netting rule, other specific adjustments can further reduce the tax base. For instance, stock repurchased and subsequently contributed to an employee pension plan or ESOP is excluded from the calculation. Repurchases that are treated as a dividend for tax purposes are also exempt. If a securities dealer repurchases stock in the ordinary course of its business, that transaction is not subject to the tax.
To illustrate, consider a corporation that repurchases $50 million of its stock in a taxable year. During that same year, it issues $10 million in stock to its employees through compensation plans and raises another $5 million from a public stock offering. The initial base of $50 million is reduced by the $15 million of issued stock, resulting in an adjusted base of $35 million. The 1% excise tax is then applied to this $35 million figure, yielding a tax liability of $350,000.
Required Information and Form Completion
To prepare for calculating the tax, a corporation must compile specific financial data from its taxable year. This includes the total fair market value of all stock it repurchased, with detailed records of the date and value of each transaction. It must also gather the total fair market value of all stock it issued during the same period.
The primary document for calculating the tax is Form 7208, Excise Tax on Repurchase of Corporate Stock. This form acts as a worksheet to arrive at the final tax liability. A corporation will use its gathered financial data to complete the specific lines on this form, which guide the user through applying the netting rule and other statutory exceptions to determine the final tax base.
Filing and Payment Procedures
After calculating the final tax liability on Form 7208, the corporation must report this amount on Form 720, the Quarterly Federal Excise Tax Return, and attach Form 7208 to the filing. Although Form 720 is a quarterly return, the stock buyback excise tax is paid only once per year. The liability for the entire taxable year is reported on the Form 720 for the first quarter of the calendar year following the end of the company’s taxable year.
Payment of the tax is due at the same time as the filing deadline for the Form 720. Corporations are required to make this payment electronically through the Electronic Federal Tax Payment System (EFTPS). No extensions will be permitted for reporting or paying the stock repurchase excise tax.