A corporation may have declared a stock split or reverse split during the period of time that you owned it. To properly account for your cost basis, you need to adjust for these splits. A history of stock splits can usually be found on the corporate website under the link for "investors."
Reverse splits are those in which you end up with fewer shares rather than more.
Click on the image to the right to access our free stock split calculator. It has the data already loaded for recent stock splits of major companies. You can use it to compute your cost basis for cash payments received in lieu of fractional shares.
Stock Split Calculator
Don't just pay tax on the whole cash in lieu payment. You have cost basis in the fractional share that you are entitled to use.
STOCK SPLITS: Here is an example of how to record a stock split.
Assume that you bought 100 shares of IBM on 4/2/2000 for $2000.00 On 5/2/2001, IBM declared a four for one stock split and you received 300 additional shares.
Your original cost basis for 100 shares was $20.00 per share, total cost $2,000.00 Your adjusted cost basis for 400 shares is now $5.00 per share, total cost $2,000.00
You still own the same percentage ownership of the business and no true economic value has been added to your investment by the stock split. However, because the trading price of the stock will also be reduced to about 1/4 of its original market price, there is often a positive psychological effect on investor confidence and marketability. The reason for this is because it brings the stock price range down to a lower price so that investors can more easily afford to buy it in round lots of 100 shares. It also signals that management is confident that they can maintain the price at a trading floor in that range.
Reverse splits usually occur when management is trying to get a very low-priced stock to trade at a higher price range.
Here is an example of how to record a reverse stock split:
Assume that you bought 1,000 shares of XYZ Corp on 4/2/2000 at $20.00 per share for a total cost of $20,000.00. By 5/2/2001, the market price for the stock had fallen to $2.00 per share, a market loss of 90%. On 5/2/2001, XYZ declared a reverse one for ten stock split. Your brokerage firm delivered off 1,000 shares of the "old" XYZ shares and received 100 shares of the "new" XYZ Corp stock in exchange. After the exchange, the "new" shares began trading in the stock market for about $20.00 per share.
Your original cost basis for 1,000 "old" shares was $20.00 per share, total cost $20,000.00. Your adjusted cost basis for 100 "new" shares is now $200.00 per share, with the same total cost $20,000.00
You still own the same percentage ownership of the business and no true economic value has been added to your investment by the reverse stock split. However, because the trading price of the stock will also be increased to about ten times its prior market price trading range, there is often a positive psychological effect on investor confidence and marketability. The reason for this is because it brings the stock price range up to a higher, more normal price that investors are used to seeing. Investors often shy away from stocks trading below $5.00 due to perceived higher risk.