What Is the Section 4501 Excise Tax?

The Inflation Reduction Act of 2022 introduced a new provision to the Internal Revenue Code, Section 4501. This section establishes a 1% excise tax on the net value of a corporation’s stock repurchases. The tax applies to stock buybacks that occur after December 31, 2022. The tax is calculated based on the fair market value of the stock that a company buys back from the market within its taxable year.

Determining Applicability

The excise tax applies to entities defined as “covered corporations.” This term refers to any domestic corporation whose stock is traded on an established securities market. The tax framework is primarily aimed at these publicly traded U.S. companies that engage in buying back their own shares from investors.

The rules also extend to certain foreign corporations, creating a more complex applicability analysis. A U.S. subsidiary of a publicly traded foreign corporation may be subject to the tax if it purchases the stock of its foreign parent. This provision is designed to prevent avoidance of the tax by using a U.S.-based affiliate to conduct the repurchase.

Calculating the Taxable Base

The calculation of the stock repurchase excise tax begins with determining the total fair market value (FMV) of all company stock repurchased during the corporation’s taxable year. This forms the initial base amount before any adjustments. A repurchase includes a broad range of transactions, such as redemptions or any other acquisition of a corporation’s stock from a shareholder in exchange for property.

A central feature of the tax calculation is the “netting rule,” which allows corporations to reduce their taxable base. The total FMV of repurchased stock is decreased by the FMV of any stock the corporation issued during the same taxable year. This includes stock issued to employees, such as through stock-based compensation plans, or stock sold to the public in an offering. The purpose of this rule is to tax the net reduction in shares outstanding, rather than the gross repurchase amount.

Several statutory exceptions further reduce the amount of repurchases subject to the tax. For instance, if a repurchase is part of a tax-free reorganization under Section 368 of the Internal Revenue Code, it is not counted. Another exception applies when the repurchased stock, or an equivalent value of stock, is contributed to an employer-sponsored retirement plan, such as an employee stock ownership plan (ESOP). These contributions can offset the repurchase amount, lowering the potential tax liability.

There is also a de minimis exception for smaller repurchase programs. If the total value of stock repurchased during a taxable year does not exceed $1,000,000, the corporation is exempt from the tax for that year. This threshold ensures that only corporations with more substantial buyback activities are subject to the excise tax.

Reporting and Paying the Tax

A corporation subject to the tax must use two specific forms for compliance: Form 7208, Excise Tax on Repurchase of Corporate Stock, and Form 720, Quarterly Federal Excise Tax Return. Form 7208 is used to calculate the stock repurchase excise tax liability for the entire taxable year. This completed form is then attached to the quarterly Form 720 for payment submission.

The timing for reporting and paying the tax is unique. The liability is calculated annually but paid and reported on a quarterly schedule. Specifically, the tax for a corporation’s full taxable year is reported on the Form 720 that is due for the first full calendar quarter ending after the corporation’s taxable year concludes.

For a company with a standard calendar taxable year ending December 31, the tax would be reported on the Form 720 for the first quarter of the following year. This means a calendar-year corporation would file its Form 7208 and pay the tax with its Form 720 for the first quarter, which is due by April 30 of the next year. Extensions for filing or payment are not permitted.