Senior Tax Specialist Practice Test

When Naomi elected to reinvest her dividends, the tax implications are significant in understanding how dividend reinvestment works in terms of taxation and cost basis.

When dividends are paid out, they are generally considered taxable income in the year they are received, regardless of whether the recipient chooses to take them in cash or reinvest them in additional shares of stock. Thus, in Naomi's case, the dividends she received for the tax year 2017 would be included in her taxable income for that year.

Furthermore, when dividends are reinvested, they also affect her basis in the stock. The amount of the dividends that are reinvested is added to her initial basis in the stock purchased, which is crucial for determining the capital gain or loss when she eventually sells the stock. This means that not only does she need to report the dividends as income, but her investment cost basis in the stock increases due to the reinvestment, ensuring that her tax efficiency is maintained when she sells the shares in the future.

Therefore, the chosen answer accurately reflects the dual implications of dividend reinvestment: the requirement to report the dividends as taxable income for that year and the adjustment of her basis in the stock.