In what manner are liquidating dividends treated by an investor?

Liquidating dividends are treated by an investor as a return of capital. This is because liquidating dividends are distributed when a corporation is winding down its operations and liquidating its assets. Unlike regular dividends—which are typically paid out of retained earnings and represent a share of the company’s profits—liquidating dividends return part of the original investment to the shareholders.

When an investor receives a liquidating dividend, it reduces the carrying amount of their investment in the company, reflecting the distribution of capital. This means that instead of recognizing them as income or gain, they adjust the basis of the investment, acknowledging that they are receiving back their initial investment rather than earning income through normal business operations.

This treatment helps to maintain a clear distinction between returns on investment driven by profitability and those that represent a recovery of investment principal.