Income and Assets · Property, real and personal

Basis of stock after stock splits and stock dividends

Verification 2026 Verified
tax year · reviewed 2026-08-19 · Draft for I. Ohu review

A stock split creates nothing and destroys nothing. Total basis is unchanged; it is divided over more shares. What actually causes trouble is everything around that simple fact — whether the distribution was excluded from income at all, which date the allocation uses, and which lot a later sale comes out of when the client has been buying the same stock for fifteen years.

The rule

A stock distribution is normally not income. Gross income does not include the amount of any distribution of the stock of a corporation made by that corporation to its shareholders with respect to its stock (IRC § 305(a)).

Five exceptions turn it back into a property distribution. Section 305(a) does not apply, and the distribution is treated as a § 301 distribution of property, where it is payable in stock or in property at any shareholder’s election; where it is disproportionate, some shareholders receiving property and others an increased proportionate interest; where some common shareholders receive preferred and others common; where it is a distribution on preferred stock; or where convertible preferred is distributed (IRC § 305(b)(1)–(5)). The first exception is the one that catches ordinary facts: a dividend reinvestment election is a shareholder election between stock and money.

Where § 305(a) applies, basis is allocated, not created. The adjusted basis of the old stock is allocated between the old stock and the new stock or rights (IRC § 307(a)). The regulation supplies the method: in proportion to the fair market values of each on the date of distribution — and states expressly that the date of distribution is the date the stock or rights are distributed to the shareholder, not the record date (Treas. Reg. § 1.307-1(a)).

Rights below a threshold get a zero basis unless the shareholder elects otherwise. Where a corporation distributes rights to acquire its stock in a § 305(a) distribution and the fair market value of those rights is less than 15 percent of the fair market value of the old stock at that time, § 307(a) does not apply and the basis of the rights is zero — unless the taxpayer elects to allocate (IRC § 307(b)(1), (2)). The regulation adds that the general allocation rule applies to rights only if they are exercised or sold (Reg. § 1.307-1(a), closing sentence).

The holding period tacks. In determining the period for which stock or rights received on a distribution have been held, where basis is determined under § 307, there is included the period the shareholder held the stock in the distributing corporation before the distribution (IRC § 1223(4)). New shares from a split are therefore as old as the shares that produced them.

When shares are sold, the lot must be identified or the earliest one is used. Where a taxpayer sells shares purchased on different dates or at different prices and does not adequately identify the lot, the shares sold are charged against the earliest lot acquired, which fixes both the basis and the holding period (Treas. Reg. § 1.1012-1(c)(1)(i)).

Identification has a deadline. An identification is adequate only if made no later than the earlier of the settlement date or the settlement time required by Rule 15c6-1 (Treas. Reg. § 1.1012-1(c)(8)). A standing order or instruction for specific identification is treated as made at the time of sale. An instruction given when the return is prepared is far too late.

Average basis is available only in two situations. A taxpayer may use the average basis method for identical shares where they are shares in a regulated investment company, or shares acquired after 31 December 2010 in connection with a dividend reinvestment plan, and are left with a custodian or agent in an account maintained for their acquisition or disposition (Treas. Reg. § 1.1012-1(e)(1)(i)).

None of these choices is a method of accounting. A method of determining the basis of stock, including lot identification and the average basis method, is not a method of accounting, so changing it is not a change to which §§ 446 and 481 apply (Treas. Reg. § 1.1012-1(c)(10)).

The broker reports basis, but not always correctly. A broker reporting gross proceeds on a covered security must also report the customer’s adjusted basis and whether the gain or loss is long or short term within the meaning of § 1222 (IRC § 6045(g)(1), (2)(A)).

Current figures

Item	2026
Stock distributions	gross income does not include a distribution by a corporation of its own stock to its shareholders with respect to its stock — subject to the exceptions in IRC § 305(b), which turn the distribution into a § 301 distribution of property^TY2026
The five exceptions	distributions payable in stock or property at any shareholder's election; disproportionate distributions; distributions of common to some common shareholders and preferred to others; distributions on preferred stock; and distributions of convertible preferred^TY2026
Allocation	the adjusted basis of the old stock is allocated between the old and the new — in proportion to the fair market values of each on the date of distribution, which is the date the stock or rights reach the shareholder and not the record date^TY2026
Rights below the threshold	where distributed rights are worth less than 15 percent of the old stock at the time of distribution, their basis is zero unless the shareholder elects the § 307(a) allocation — and the allocation rule reaches rights only if they are exercised or sold^TY2026
Holding period	the holding period of stock or rights received on a distribution whose basis is determined under IRC § 307 includes the period the shareholder held the distributing corporation's stock before the distribution^TY2026
Default identification	first-in first-out — shares sold without an adequate identification of the lot are charged against the earliest lot acquired, which fixes both basis and holding period^TY2026
Identification deadline	an identification is adequate only if made no later than the earlier of the settlement date or the settlement time required by Rule 15c6-1 — and a standing instruction for specific identification counts as made at the time of sale^TY2026
Average basis	available for identical shares of a regulated investment company, and for shares acquired after 31 December 2010 through a dividend reinvestment plan, where they are left with a custodian or agent in an account maintained for their acquisition or disposition^TY2026
Not a method of accounting	a method of determining the basis of stock, including lot identification and the average basis method, is not a method of accounting — so changing it is not a change to which IRC §§ 446 and 481 apply^TY2026
Broker reporting	a broker reporting gross proceeds on a covered security must also report the customer's adjusted basis and whether the gain or loss is long or short term within the meaning of IRC § 1222^TY2026

How it works in practice

For a straight split — two for one, three for two — the arithmetic is simply total basis divided by the new share count, and the holding period of every share runs from the original purchase under § 1223(4). Nothing is reported in the year of the split.

For a stock dividend of a different class, do the allocation properly. Take the fair market value of the old stock and of the new on the distribution date, form the ratio, and split the old basis between them. Using the record date, or using the value on the date the dividend was declared, produces a different and wrong answer, and the regulation says so in terms.

For rights, note the order of the questions. First, is this a § 305(a) distribution at all. Second, are the rights worth less than 15 percent of the old stock — if so the default basis is zero and the allocation is elective. Third, were the rights exercised or sold; if they simply lapsed, the allocation rule never engages.

For a long-held position, the real work is records. The default is first-in first-out, and the broker’s Form 1099-B will reflect whatever method the broker was told — which is not necessarily what the taxpayer intended and not necessarily right for shares acquired before basis reporting began. Reconcile before filing, and if the client wants specific identification, get the standing instruction in place, because the deadline in Reg. § 1.1012-1(c)(8) runs to settlement and not to filing.

Scenario 1 — the split that changes nothing

Rafi bought 200 shares in 2019 for 9,000 dollars. In 2026 the company declares a two-for-one split and he receives 200 more shares.

His total basis is still 9,000 dollars, now spread over 400 shares at 22.50 dollars each. Under IRC § 305(a) nothing is included in income, and under § 1223(4) all 400 shares carry a holding period running from 2019, so a sale of any of them produces long-term gain. If he sells 150 shares in 2027 without identifying a lot, Treas. Reg. § 1.1012-1(c)(1)(i) charges them against the earliest lot — which here is the same basis per share either way, one of the few cases where the default costs nothing.

Scenario 2 — the preferred dividend and the two dates

Sasha holds common stock with a basis of 60,000 dollars. The company declares a preferred stock dividend with a record date of 10 March 2026; the preferred is distributed on 2 April 2026. On the record date the common is worth 180,000 dollars and the preferred 20,000; by 2 April the common is worth 150,000 and the preferred 50,000.

The allocation uses 2 April, the distribution date, because Treas. Reg. § 1.307-1(a) says so expressly. Fair market values are 150,000 and 50,000, so three quarters of the 60,000-dollar basis — 45,000 dollars — stays with the common and 15,000 dollars attaches to the preferred. Using the record date would have put 54,000 dollars on the common and 6,000 on the preferred, and every later sale of either block would have been wrong.

Scenario 3 — the identification that came too late

Toma has bought the same stock every year since 2016. In November 2026 she calls her broker and sells 500 shares, saying nothing about which lot. In April 2027 her preparer wants to use the highest-basis lot to reduce the gain.

It is too late. Treas. Reg. § 1.1012-1(c)(8) requires an adequate identification no later than the earlier of the settlement date or the Rule 15c6-1 settlement time, so the identification window closed days after the sale. Under § 1.1012-1(c)(1)(i) the shares are charged against her 2016 lot, with its low basis and long holding period. A standing instruction for specific identification, in place before the sale, would have been treated as made at the time of sale.

The date of distribution is not the record date. Treas. Reg. § 1.307-1(a) closes this off in its own words, and the two dates are usually weeks apart with different prices.

A stock dividend is not always tax-free. The five exceptions in IRC § 305(b) turn it into a § 301 property distribution, and the election-between-stock-and-money exception is the one ordinary facts hit.

Rights that lapse never engage the allocation. The rule applies to rights only if they are exercised or sold.

Changing the identification method is not a change of accounting method, so there is nothing to request and no § 481 adjustment — but the identification itself still has a settlement-date deadline.

How this has changed

Broker basis reporting is the single largest practical change and it created a boundary. Section 6045(g) requires a broker to report adjusted basis and the long or short character on a covered security. Shares acquired before the relevant phase-in dates are not covered, so a taxpayer with a decades-old position will receive a Form 1099-B with basis blank or marked as not reported, and the return has to supply it. The statute never displaced the taxpayer’s own obligation to determine basis; it added a reporting layer on top of it.

Average basis was extended beyond mutual funds. Treas. Reg. § 1.1012-1(e)(1)(i) now reaches shares acquired after 31 December 2010 through a dividend reinvestment plan, not only regulated investment company shares. Material written before that describes average basis as a mutual fund method only.

The identification deadline was tightened to settlement. Paragraph (c)(8) fixes the time at the earlier of the settlement date or the Rule 15c6-1 time, and recognises a standing instruction. Older practice of identifying lots on the return is no longer available, and the change matters more now that settlement cycles have shortened.

Section 305 itself has been stable, and its structure is often misread. Subsection (a) is the exclusion and subsection (b) is a list of five circumstances in which the exclusion is switched off entirely — not a list of partial inclusions. Where an exception applies, the distribution is a § 301 distribution of property in full, valued as such.

Exam focus

Expect a split with a question about total basis, per-share basis, or holding period. Total is unchanged, per-share is divided, and the holding period tacks under § 1223(4).

Expect a stock dividend of a different class with two dates in the facts, one of them the record date. Use the distribution date.

Expect rights with a value close to the 15 percent line, testing whether you know the default is a zero basis with an election to allocate rather than the other way round.

Expect a lot identification question where the taxpayer wants a different lot after the fact. The default is first-in first-out and the deadline has passed.

Check yourself

1. A taxpayer holds 300 shares with a total basis of 12,000 dollars and receives 300 more in a two-for-one split. What is the basis per share and the holding period of the new shares?

Answer: 20 dollars per share across 600 shares — total basis is unchanged under IRC § 307(a) — and the new shares tack the holding period of the old under § 1223(4).

2. Rights are distributed in a § 305(a) distribution and are worth 9 percent of the value of the old stock. What is their basis?

Answer: Zero, under IRC § 307(b)(1), because their value is less than 15 percent of the old stock — unless the taxpayer elects under § 307(b)(2) to allocate basis under § 307(a).

3. A shareholder may elect to take a distribution in stock or in cash and takes stock. Is it excluded from income?

Answer: No. IRC § 305(b)(1) removes the § 305(a) exclusion where the distribution is payable in stock or property at any shareholder’s election, and the distribution is treated as a § 301 distribution of property.

4. Shares from five different purchase lots are sold with no identification given. Which lot is used?

Answer: The earliest lot acquired, under Treas. Reg. § 1.1012-1(c)(1)(i), which determines both the basis and the holding period of the shares sold.

5. A client asks in March to designate which lot was sold the previous November. Can it be done?

Answer: No. Treas. Reg. § 1.1012-1(c)(8) requires the identification no later than the earlier of the settlement date or the Rule 15c6-1 settlement time. A standing instruction in place before the sale would have qualified; a later designation does not.

Change log

2026-08-19Initial draft. Sets out the IRC § 305(a) exclusion and its § 305(b) exceptions, the § 307(a) allocation by fair market value on the distribution date under Treas. Reg. § 1.307-1(a), the § 307(b) 15 percent rule for rights, the § 1223(4) tacked holding period, and the Treas. Reg. § 1.1012-1(c) default to first-in first-out with its settlement-date identification deadline.