Sec. 306. Dispositions of certain stock
 
    (a) General rule
      If a shareholder sells or otherwise disposes of section 306 stock
    (as defined in subsection (c)) -
      (1) Dispositions other than redemptions
        If such disposition is not a redemption (within the meaning of
      section 317(b)) -
          (A) The amount realized shall be treated as ordinary income.
        This subparagraph shall not apply to the extent that -
            (i) the amount realized, exceeds
            (ii) such stock's ratable share of the amount which would
          have been a dividend at the time of distribution if (in lieu
          of section 306 stock) the corporation had distributed money
          in an amount equal to the fair market value of the stock at
          the time of distribution.
          (B) Any excess of the amount realized over the sum of -
            (i) the amount treated under subparagraph (A) as ordinary
          income, plus
            (ii) the adjusted basis of the stock,
        shall be treated as gain from the sale of such stock.
          (C) No loss shall be recognized.
          (D) Treatment as dividend.--For purposes of 
                section 1(h)(11) and such other provisions as the 
                Secretary may specify, any amount treated as ordinary 
                income under this paragraph shall be treated as a 
                dividend received from the corporation.
      (2) Redemption
        If the disposition is a redemption, the amount realized shall
      be treated as a distribution of property to which section 301
      applies.
    (b) Exceptions
      Subsection (a) shall not apply -
      (1) Termination of shareholder's interest, etc.
        (A) Not in redemption
          If the disposition -
            (i) is not a redemption;
            (ii) is not, directly or indirectly, to a person the
          ownership of whose stock would (under section 318(a)) be
          attributable to the shareholder; and
            (iii) terminates the entire stock interest of the
          shareholder in the corporation (and for purposes of this
          clause, section 318(a) shall apply).
        (B) In redemption
          If the disposition is a redemption and paragraph (3) or (4)
        of section 302(b) applies.
      (2) Liquidations
        If the section 306 stock is redeemed in a distribution in
      complete liquidation to which part II (sec. 331 and following)
      applies.
      (3) Where gain or loss is not recognized
        To the extent that, under any provision of this subtitle, gain
      or loss to the shareholder is not recognized with respect to the
      disposition of the section 306 stock.
      (4) Transactions not in avoidance
        If it is established to the satisfaction of the Secretary -
          (A) that the distribution, and the disposition or redemption,
        or
          (B) in the case of a prior or simultaneous disposition (or
        redemption) of the stock with respect to which the section 306
        stock disposed of (or redeemed) was issued, that the
        disposition (or redemption) of the section 306 stock,
      was not in pursuance of a plan having as one of its principal
      purposes the avoidance of Federal income tax.
    (c) Section 306 stock defined
      (1) In general
        For purposes of this subchapter, the term ''section 306 stock''
      means stock which meets the requirements of subparagraph (A),
      (B), or (C) of this paragraph.
        (A) Distributed to seller
          Stock (other than common stock issued with respect to common
        stock) which was distributed to the shareholder selling or
        otherwise disposing of such stock if, by reason of section
        305(a), any part of such distribution was not includible in the
        gross income of the shareholder.
        (B) Received in a corporate reorganization or separation
          Stock which is not common stock and -
            (i) which was received, by the shareholder selling or
          otherwise disposing of such stock, in pursuance of a plan of
          reorganization (within the meaning of section 368(a)), or in
          a distribution or exchange to which section 355 (or so much
          of section 356 as relates to section 355) applied, and
            (ii) with respect to the receipt of which gain or loss to
          the shareholder was to any extent not recognized by reason of
          part III, but only to the extent that either the effect of
          the transaction was substantially the same as the receipt of
          a stock dividend, or the stock was received in exchange for
          section 306 stock.
        For purposes of this section, a receipt of stock to which the
        foregoing provisions of this subparagraph apply shall be
        treated as a distribution of stock.
        (C) Stock having transferred or substituted basis
          Except as otherwise provided in subparagraph (B), stock the
        basis of which (in the hands of the shareholder selling or
        otherwise disposing of such stock) is determined by reference
        to the basis (in the hands of such shareholder or any other
        person) of section 306 stock.
      (2) Exception where no earnings and profits
        For purposes of this section, the term ''section 306 stock''
      does not include any stock no part of the distribution of which
      would have been a dividend at the time of the distribution if
      money had been distributed in lieu of the stock.
      (3) Certain stock acquired in section 351 exchange
        The term ''section 306 stock'' also includes any stock which is
      not common stock acquired in an exchange to which section 351
      applied if receipt of money (in lieu of the stock) would have
      been treated as a dividend to any extent.  Rules similar to the
      rules of section 304(b)(2) shall apply -
          (A) for purposes of the preceding sentence, and
          (B) for purposes of determining the application of this
        section to any subsequent disposition of stock which is section
        306 stock by reason of an exchange described in the preceding
        sentence.
      (4) Application of attribution rules for certain purposes
        For purposes of paragraphs (1)(B)(ii) and (3), section 318(a)
      shall apply.  For purposes of applying the preceding sentence to
      paragraph (3), the rules of section 304(c)(3)(B) shall apply.
    (d) Stock rights
      For purposes of this section -
        (1) stock rights shall be treated as stock, and
        (2) stock acquired through the exercise of stock rights shall
      be treated as stock distributed at the time of the distribution
      of the stock rights, to the extent of the fair market value of
      such rights at the time of the distribution.
    (e) Convertible stock
      For purposes of subsection (c) -
        (1) if section 306 stock was issued with respect to common
      stock and later such section 306 stock is exchanged for common
      stock in the same corporation (whether or not such exchange is
      pursuant to a conversion privilege contained in the section 306
      stock), then (except as provided in paragraph (2)) the common
      stock so received shall not be treated as section 306 stock; and
        (2) common stock with respect to which there is a privilege of
      converting into stock other than common stock (or into property),
      whether or not the conversion privilege is contained in such
      stock, shall not be treated as common stock.
    (f) Source of gain
      The amount treated under subsection (a)(1)(A) as ordinary income
    shall, for purposes of part I of subchapter N (sec. 861 and
    following, relating to determination of sources of income), be
    treated as derived from the same source as would have been the
    source if money had been received from the corporation as a
    dividend at the time of the distribution of such stock.  If under
    the preceding sentence such amount is determined to be derived from
    sources within the United States, such amount shall be considered
    to be fixed or determinable annual or periodical gains, profits,
    and income within the meaning of section 871(a) or section 881(a),
    as the case may be.
    (g) Change in terms and conditions of stock
      If a substantial change is made in the terms and conditions of
    any stock, then, for purposes of this section -
        (1) the fair market value of such stock shall be the fair
      market value at the time of the distribution or at the time of
      such change, whichever such value is higher;
        (2) such stock's ratable share of the amount which would have
      been a dividend if money had been distributed in lieu of stock
      shall be determined as of the time of distribution or as of the
      time of such change, whichever such ratable share is higher; and
        (3) subsection (c)(2) shall not apply unless the stock meets
      the requirements of such subsection both at the time of such
      distribution and at the time of such change.