corporate formations tx 8120. goals to achieve 1.calculate ____ or ____ from transfers to controlled...
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Corporate FormationsTx 8120
Goals to Achieve
1. Calculate ____ or ____ from transfers to controlled corporations,
2. Explain _____ and _______ period implications from such transfers,
3. Determine tax consequences of contributions to ________, and
4. Explain deductibility of ______________ expenditures and ________ costs.
You should be able to:
Fundamental Tax IssuesTransfers to Controlled Corporations
Shareholders
Corporation
Property Stock
1. How much gain or loss do shareholders _______________?
2. What _______ do shareholders take in ______ received?
3. When does the ___________ period begin in the _________ received?
1. How much gain or loss does the corporation ____________?
2. What _______ does the corporation take in the __________ received?
3. When does the corporation’s __________ period begin in the ___________ received?
Shareholder (_________) Issues Corporation (__________) Issues
Control
Section 1001
(a) Computation of gain or loss.
The gain from the sale or other disposition of property shall be the excess of the amount realized … over the adjusted basis …, and the loss shall be the excess of the adjusted basis …over the amount realized.
…
(c) Recognition of gain or loss.
Except as otherwise provided in this subtitle, the entire amount of the gain or loss … on the sale or exchange of property shall be recognized.
Transfers to controlled corporationsShareholder issues
Gain or loss recognized
Section 351(a)
(a) General rule.
No gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock in such corporation and immediately after the exchange such person or persons are in control (as defined in section 368(c)) of the corporation.
Rationales: (1) Continuation of (2) Re gains, (3) Re losses,
Transfers to controlled corporationsShareholder issues
Gain or loss recognized
Section 367(a)(1)
(a) Transfers of property from the United States.(1) General rule. If, in connection with any exchange described in section 332, 351, 354, 356, or 361, a United States person transfers property to a foreign corporation, such foreign corporation shall not, for purposes of determining the extent to which gain shall be recognized on such transfer, be considered to be a corporation.
Transfers to controlled corporationsShareholder issues
Gain or loss recognized
What Is Property?
• Cash
• Accounts receivable
• Inventory
• Equipment
• Real estate
• Intangibles No gain results from transferring cash. So, does it matter whether cash is considered “property”?
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedProperty condition
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedProperty condition
Hempt Brothers, Inc. v. US(CA-3, 1974)
A ___ method partnership incorporated under §351, transferring accounts
receivable with a ___ basis. Taxpayer insisted such receivables are not
“______” under §351 and, thus, represent gross income to the partnership
when transferred or collected. Alternatively, the taxpayer argued that the
assignment of income doctrine controls. The IRS countered that
receivables are ______ for which the corporation takes a transferred basis
of ____ and become gross income to the new corporation when collected.
Hempt Bros., Inc.
100%
Partnership
Shares
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedProperty condition
Hempt Brothers, Inc. v. US(CA-3, 1974)
In siding with the gov’t, the court found no reason to narrowly construe
“_______” and believed that the §351 purpose to facilitate the
incorporation of ongoing businesses trumps any assignment of income
concerns. Further, the court noted that §358 did not increase the basis of
shares received because of the ____ basis receivables. Thus, gross income
attributable to the receivables is merely deferred.
Hempt Bros., Inc.
100%
Partners
Shares
Section 351(d)
(d) Services, certain indebtedness, and accrued interest not treated as property.
For purposes of this section, stock issued for--
(1) services,(2) Indebtedness of the transferee which is not evidenced
by a security, or(3) Interest on indebtedness of the transferee corporation
which accrued on or after the beginning of the transferor’s holding period for the debt,
shall not be considered as issued in return for property.
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedProperty condition
Example: Stock for Services
Bart drafts and files articles of incorporation for Al’s business and bills Al $3,000. Al transfers his business assets to the new corporation. Of 100 authorized shares, Bart receives 10 for his work, and Al receives 90. What are the tax consequences to each individual? Would the results change if Bart and Al receive 25 and 75 shares, respectively?
Al (owner) Bart (attorney)
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedProperty condition
How Much Property?
• For §351 to apply, “_________” must control the corporation afterwards.
• Generally, a person contributing property and services is a “_________” whose total shares count toward control requirement.
• So, why not have service providers contribute ________ property?
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedProperty condition
How Much Property?(continued)
• Nominal property transfers used ________ to qualify other transferors under §351 are ________, Reg. §1.351-1(a)(1)(ii).
• Transfers avoid nominal label if FMV of contributed property ≥ ___% of FMV of stock previously owned and received for ________, Rev. Proc. 77-37, §3.07.
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedProperty condition
What Is Stock?
• Can be _____ or _________
• Can be ______ or _________
• Does not include:– Stock ______– Long-term _____ securities– ___________ preferredShareholders
Corporation
Property Stock
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Control
Nonqualified Preferred, §351(g)
• Preferred stock– Limited and preferred as to ___________– Doesn’t significantly participate in _______
• Nonqualified – Holder has right to require ___________,– Issuer is required to ________ shares,– Issuer has right to ________ and, on issuance
date, is more likely than not to ________, or– Dividend rate ______
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Section 351(b)
(b) Receipt of property.
If subsection (a) would apply to an exchange but for the fact that there is received, in addition to the stock permitted to be received under subsection (a), other property or money, then--
(1) gain (if any) to such recipient shall be recognized, but not in excess of--
(2) no loss to such recipient shall be recognized.
(A) the amount of money received, plus(B) the fair market value of such other property received; and
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Receipt of Boot
Shareholders
Corporation
Property Stockplus Boot
____ of stock and boot received- Adjusted of property transferred
_________ gain
_________ gain = Smaller of:(a)(b)
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Rev. Rul. 68-55
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Individual A(shareholder)
Corp Y(newly organized)
Corp X(shareholder)
$20
Issues
1. Does X calculate gain on ______ or ___________ basis?
2. If determined on _______ basis, how does X determine what it receives for each _______?
Y stock (FMV$100) and $10
Y stock(FMV $20)
FMV Basis OtherAsset I $ 22 $ 40 LTCLAsset II 33 20 STCGAsset III 55 25 §1245
Rev. Rul. 68-55(continued)
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Individual A(shareholder)
Corp Y(newly organized)
Y stock (FMV$100) and $10
Corp X(shareholder)
Y stock(FMV $20)$20
FMV Basis OtherAsset I $ 22 $ 40 LTCLAsset II 33 20 STCGAsset III 55 25 §1245
$110 - $85 = $25 gain
Each asset is ________ exchanged:a. No _______ of gains and lossesb. _______________ analysis
Overall or Separate?
Rev. Rul. 68-55(continued)
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Individual A(shareholder)
Corp Y(newly organized)
Y stock (FMV$100) and $10
Corp X(shareholder)
Y stock(FMV $20)$20
FMV Basis OtherAsset I $ 22 $ 40 LTCLAsset II 33 20 STCGAsset III 55 25 §1245
Need amount realized for each asset:a. Based on _________ ____b. Compute _____ and ____ separately
Amount Realized?
Rev. Rul. 68-55(continued)
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Asset Asset AssetTotal I II III
FMV of asset $110 $22 $33 $55Percent of total
FMV of: Y stock received Cash receivedAmount realizedBasis of assetGain (loss) realizedGain (loss) recognized
Thus, Corp X recognizes $__ short-term capital gain and
$__ ordinary income. Individual A
(shareholder)
Corp Y
(newly organized)
Y stock (FMV$100) and $10
Corp X
(shareholder)
Y stock(FMV $20)$20
FMV Basis OtherAsset I $ 22 $ 40 LTCLAsset II 33 20 STCGAsset III 55 25 §1245
Section 357(a)
(a) General rule.
Except as provided in subsections (b) and (c), if--(1) the taxpayer receives property which would be permitted to be received under section 351 … without the recognition of gain if it were the sole consideration, and(2) as part of the consideration, another party to the exchange assumes a liability of the taxpayer,
then such assumption shall not be treated as money or other property, and shall not prevent the exchange from being within the provisions of section 351 ….
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Section 357(b)
(b) Tax avoidance purpose.
(1) In general. If … it appears that the principal purpose of the taxpayer with respect to the assumption described in subsection (a)--
then such assumption (in the total amount of the liability assumed …) shall, for purposes of section 351 …, be considered as money received by the taxpayer on the exchange.
(A) was a purpose to avoid Federal income tax on the exchange, or(B) if not such purpose, was not a bona fide business purpose,
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Attempted Bail Out
Pete
Corporation
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Objective: Pete needs $100. He owns unencumbered realty (FMV $100, basis $25) he’d like to sell, but he doesn’t want to recognize gain.
Strategy: Borrow $100 on nonrecourse mortgage, transfer encumbered realty to 100%-owned corporation, and let the corporation pay off the mortgage. 100%
BANK
Section 357(c)(1)
(c) Liabilities in excess of basis.
(1) In general. In the case of an exchange--
if the sum of the amount of the liabilities assumed exceeds the total of the adjusted basis of the property transferred pursuant to such exchange, then such excess shall be considered as a gain ….
(A) to which section 351 applies …
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Debt Heavy Transfers
Serf Corp
100%
Castle Corp
How much gain does Castle recognize?
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Peracchi v. CIR(CA-9, 1998)
An insurance corporation needed capital to meet state premium-to-asset
ratios. So, its sole owner contributed encumbered realty for which the
debt _________ the realty’s basis. To avoid §357(c) _____, the
shareholder also gave the corporation his promissory note, asserting the
note’s _____ equaled its face value. The IRS insisted on a _____ _____
for the note.
NAC
Don Peracchi
Realty’s basis $ 980,000 Mortgages 1,550,000Promissory note 1,060,000
100%
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Peracchi v. CIR(CA-9, 1998)
The court noted ________ ________ ______ since, in bankruptcy, hostile creditors could recover from the shareholder. Also, the transaction was economically equivalent to the shareholder _________ cash, _________ it to the corporation, and the corporation using the cash to ____ Don’s note from the creditor. Finally, attributing a _____ basis to the note would force the corporation to recognize “________ ____” if it later sold the note. The court _________ the Tax Court, which believed the debt was not genuine, and held for the taxpayer.
NAC
Don Peracchi
Realty’s basis $ 980,000 Mortgages 1,550,000Promissory note 1,060,000
100%
Section 357(c)(3)
(c) Liabilities in excess of basis.
(3) Certain liabilities excluded.
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
(A) In general. If a taxpayer transfers, in an exchange to which section 351 applies, a liability the payment of which … would give rise to a deduction … then … such liability shall be excluded in determining the amount of liabilities assumed.(B) Exception. Subparagraph (A) shall not apply to any liability to the extent that the incurrence of the liability resulted in the creation of, or an increase in, the basis of any property.
Rationale of §357(c)(3)
Cash BasisProprietor
Corporation
100%
Cash BasisProprietor
Corporation
100%
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Creditors
Assets: FMV $700Basis 100
Payables 500Shares: FMV $200 Shares: FMV $200
Cash 500Assets: FMV $700
Basis 100
Cash Basis Transferors
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Liabilities Not Liabilities
Accrued wagesAccounts payable for heavy machineryRepair services received but not paidBank loan for working capitalUtilities used but not yet paidInventory bought on creditMortgage securing land
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Rev. Rul. 95-74
The manufacturing business of P, an accrual basis corporation, operated
on land that hazardous waste had contaminated, resulting in _________
environmental liabilities. Under §351, P transferred the manufacturing
business (including the land and its associated liability) to newly-created
S, a 100%-owned, accrual basis corporation. Two years later, S began soil
and groundwater remediation efforts, involving §___ and §___
expenditures.
1. Are the contingent liabilities _______ or ________ under §357(c)?
2. Can S ______ or ________ expenditures related to these liabilities?
Issues
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Rev. Rul. 95-74(continued)
In determining whether liabilities __ ________ of transferred assets,
liabilities for which P has received ___ deduction or _______ increase are
ignored. Otherwise, P recognizes gain for which it receives no ___
______.
Holding on Issue 1
As incurred, S can _______ under §162 or __________ under §263 any
soil and groundwater remediation costs it incurs.
Holding on Issue 2
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedSolely for stock condition
Mapping of Liabilities
• Liabilities transferred to corporations are not treated as ______ received.
• Exceptions:– Tax _________ motive– Lack of __________ purpose– Liabilities __ basis in transferred assets
• Subsidiary to tax ______ and _______ purpose tests
• Liability ignored if transferor has not ______ or _______ item
Section 368(c)
(c) Control defined.
… [T]he term “control” means the ownership of stock possessing at least 80 percent of the total combined voting power of all classes of stock entitled to vote and at least 80 percent of the total number of shares of all other classes of stock of the corporation.
Shareholders
Corporation
Property Stock
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
Control
Intermountain Lumber Co. v. CIR(TC, 1976)
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
S&W Sawmill(later acquired by
Intermountain)
364 S&Wshares
Dee Shook
Sawmillsite
Milo Wilson
182 S&Wshares in escrow
Installmentnote
American Bantam Car Co. v. CIR(TC, 1948, aff’d per curiam CA-3, 1949)
“Associates” transferred assets of bankrupt auto company to
new corporation in return for voting _________.
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
June 3, 1936
Associates and underwriters reached fee agreement
regarding public offering of voting ___________.
June 8, 1936
Associates placed all _________ in escrow, pending
outcome of public offering.Aug. 1936
Associates transferred _________ stock (> 20%) to
underwriters as compensation for public offering.Oct. 1937
American Bantam Car Co. v. CIR(TC, 1948, aff’d per curiam CA-3, 1949)
Did associates have control on incorporation date?
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
Issue:
Holding:
No binding, written agreement existed with underwriters
_______ incorporation.
Underwriters received common only if sales ______ met.
Placing common in _________ indicated ownership.
Contemplating steps under general plan does not invoke
______ ___________ doctrine.
Reasoning:
Corporation can deduct depreciation only on the §362
____________ basis, which is lower than ____ basis.Implication:
Control _______, so §351 applies. Taxpayer ______.
D’Angelo Associates, Inc. v. CIR(TC, 1978)
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
Dad contributed $15,000 to new corporation, and
corporation issued 10 shares each to Mom and 5 kids.June 21
Mom and Dad “sold” depreciable assets to corporation in
return for $15,000, mortgages assumed, and demand note
payable to Dad.
June 30
Dad never had ______.
June 30 transaction was a ____.
Sec. 351 ___________.
Corporation takes __________ basis.
_____ ___________ doctrine
applies.
Single “__________” transfer exists.
Sec. 351 ________.
Only _________ basis is depreciable.
Taxpayer Position Gov’t Position
Did Dad have control on incorporation date?
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
Issue:
_______ existed, so ______ applies. Taxpayer ________.Holding:
Equivalent to incorporation with depreciable assets
followed by ______ of shares to family members.
Incorporation and “sale” occurred almost ____________,
and formed ________ parts of a single plan; incorporation
was ______________ without later “sale.”
No ____________ reason evident for separate transfers.
Reasoning:
Taxpayer can deduct depreciation only on the §362
________ basis, which is lower than _____ basis.Implication:
D’Angelo Associates, Inc. v. CIR(TC, 1978)
Rev. Rul. 2003-51
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
Corp W(businesses A, B, C)
Corp Z(formed to run
combined business A)
Corp Y(business A)
Corp X(Y’s parent)
Transfers #2 and #3 occur simultaneously.
Rev. Rul. 2003-51
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
Corp W(businesses B and C)
Corp Z(combined business A)
Corp Y
Corp X
100%
40%60%
Rev. Rul. 2003-51
Corp W(businesses A, B, C)
Corp Z(combined A)
Corp Y(business A)
Corp X(Y’s parent)
Transfers #2 and #3 occur simultaneously.
“Courts have held that the control requirement of §351 is not satisfied where, pursuant to a _______ ________ entered into by the transferor _____ ___ the transfer of property …, the transferor [Corp _] loses control of the corporation [Corp _] by a ______ ____ of … that stock to a third party who does not also transfer property ….”
However, “a transfer of property that is followed by a ___________ _________ of the stock received … is not
necessarily inconsistent with the purposes of §351.”
Rev. Rul. 2003-51
Corp W(businesses A, B, C)
Corp Z(formed to run
combined business A)
All Z shares
Corp Y(business A)
Business A
Y shares
Corp X(Y’s parent)
Y shares $30
Business A and $30
HOLDING: _______ transfer falls under §351 since transaction can be recast to clearly meet requirements.
Collapse Steps If
• Legally bound to complete later steps– Rationale in __________ _________– Missing in _________ ________ ____
• Separate transfers lack business reason– Point of _________ ___________
• Transferee later disposes of shares in prearranged, taxable sale– Taxable sale absent in ____ ____ _______
Transfers to controlled corporationsShareholder issues
Gain or loss recognizedControl condition
Basics on Basis
• Two ways to increase basis– Invest ________– Recognize _______
• Two ways to decrease basis– Withdraw ________– Take _________
Transfers to controlled corporationsShareholder issues
Basis of stock received
Section 358(a) (a) General rule.
In the case of an exchange to which section 351 … applies--(1) Nonrecognition property. The basis of the property permitted to be received … without the recognition of gain or loss shall be the same as that of the property exchanged--
(A) decreased by--
(i) the fair market value of any other property (except money) received by the taxpayer,
(ii) the amount of any money received by the taxpayer, and …
(B) increased by--
(ii) the amount of gain to the taxpayer which was recognized on such exchange ….(2) Other property. The basis of any other property (except money)
received by the taxpayer shall be its fair market value.
Transfers to controlled corporationsShareholder issues
Basis of stock received
Section 358(a)
Basis of ________ _______ to corporation- Boot _______ - Liabilities transferred (i.e., same as _____)+ recognized
Basis of _______ received from corporation
Shareholders
Corporation
Transfers to controlled corporationsShareholder issues
Basis of stock received
Stockand Boot
Propertyand Liabilities
Control
Rev. Rul. 68-55(extended)
Individual A(shareholder)
Corp Y
(newly organized)
Y stock (FMV$100) and $10
Corp X
(shareholder)
Y stock(FMV $20)$20
FMV Basis OtherAsset I $ 22 $ 40 LTCLAsset II 33 20 STCGAsset III 55 25 §1245
Transfers to controlled corporationsShareholder issues
Basis of stock received
Asset Asset AssetTotal I II III
FMV of asset $110 $22 $33 $55Percent of total
FMV of: Y stock received $100 $20 $30 $50 Cash received 10 2 3 5Amount realized $110 $22 $33 $55Basis of asset 40 20 25Gain (loss) realized $-18 $13 $30Gain (loss) recognized $ 0 $ 3 $ 5
What is X’s basis in stock received?
Basis relinquishedBoot receivedGain recognizedBasis of stock received
20% 30% 50%
Section 1223(1)
For purposes of this subtitle--
(1) In determining the period for which the taxpayer has held property received in an exchange, there shall be included the period for which he held the property exchanged if … the property has, for the purpose of determining gain or loss from a sale or exchange, the same basis in whole or in part in his hands as the property exchanged, and … the property exchanged at the time of such exchange was a capital asset as defined in section 1221 or property described in section 1231.
Transfers to controlled corporationsShareholder issues
Holding period of stock received
Rev. Rul. 68-55(extended)
Individual A(shareholder)
Corp Y
(newly organized)
Y stock (FMV$100) and $10
Corp X
(shareholder)
Y stock(FMV $20)$20
FMV Basis OtherAsset I $ 22 $ 40 LTCLAsset II 33 20 STCGAsset III 55 25 §1245
Transfers to controlled corporationsShareholder issues
Basis of stock received
Asset Asset AssetTotal I II III
FMV of asset $110 $22 $33 $55Percent of total
When does X’s holding period begin in these shares?
Recall that X takes an $83 exchanged basis in Y shares received.
Per Rev. Rul. 85-164, each share receives a “____ ________ _____” allocated according to relative _____ of assets relinquished.
Thus, __% of each share receives its holding period from Asset I, __% from Asset II, and __% from Asset III.
20% 30% 50%
Section 1032(a)
(a) Nonrecognition of gain or loss.
No gain or loss shall be recognized to a corporation on the receipt of money or other property in exchange for stock (including treasury stock) of such corporation.
Transfers to controlled corporationsCorporate issues
Gain or loss recognized
Shareholders
Corporation
Property Stock
Control
Section 362(a)
(a) Property acquired by issuance of stock or as paid-in surplus.
If property was acquired … by a corporation--
(1) in connection with a transaction to which section 351 … applies, or
(2) As paid-in surplus or as a contribution to capital,
then the basis shall be the same as it would be in the hands of the transferor, increased in the amount of gain recognized to the transferor on such transfer.
Shareholders
Corporation
Property Stock
Transfers to controlled corporationsCorporate issues
Basis of property received
Section 362(e)(2)
(2) Limitation on transfer of built-in losses in section 351 transactions.
(A) In general. If--
then, … the transferee’s aggregate adjusted bases of the property so transferred shall not exceed fair market value of such property immediately after such transaction.
Transfers to controlled corporationsCorporate issues
Basis of property received
(i) property is transferred by a transferor in [a 351 exchange], and
(ii) the transferee’s aggregate adjusted bases of such property so transferred would (but for this paragraph) exceed the fair market value of such property immediately after such transaction,
Shareholders
Corporation
Property Stock
Control
Section 362(a)
Prior basis of _______ to shareholder+ shareholder recognizes
Basis of ______ corporation receives
Shareholders
Corporation
Property Stock
Transfers to controlled corporationsCorporate issues
Basis of property received
Control
Rev. Rul. 68-55(extended)
Individual A(shareholder)
Corp Y
(newly organized)
Y stock (FMV$100) and $10
Corp X
(shareholder)
Y stock(FMV $20)$20
FMV Basis OtherAsset I $ 22 $ 40 LTCLAsset II 33 20 STCGAsset III 55 25 §1245
Asset Asset AssetTotal I II III
Transfers to controlled corporationsCorporate issues
Basis of property received
FMV of asset $110 $22 $33 $55Percent of total
FMV of: Y stock received $100 $20 $30 $50 Cash received 10 2 3 5Amount realized $110 $22 $33 $55Basis of asset 40 20 25Gain (loss) realized $-18 $13 $30Gain (loss) recognized $ 0 $ 3 $ 5
Basis of asset to XGain recognized by X Y’s transferred basis
20% 30% 50%
Section 1223(2)For purposes of this subtitle--
(2) In determining the period for which the taxpayer has held property however acquired there shall be included the period for which such property was held by any other person, if under this chapter such property has, for the purpose of determining gain or loss from a sale or exchange, the same basis in whole or in part in his hands as it would have in the hands of such other person.
Shareholders
Corporation
Property Stock
Transfers to controlled corporationsCorporate issues
Holding period of property received
Control
XCorp(new)
A
B
C
D
E
Cash $25,000
Inventory: FMV $10,000 Basis 5,000
Unimproved Land: FMV $20,000 Basis 25,000
Equipment: FMV $25,000 Basis 5,000
*
Prior depreciation was $20,000.
Installment Note: FMV $20,000 Basis 2,000
**
*
**
25 shares
10 shares
20 shares
25 shares
20 shares
RealizedGain <Loss>
RecognizedGain <Loss>
Basis ofShares Received
HoldingPeriod Tacks
Received for land ($2,000 basis) sold last year and payable over 5 years, beginning in 2 years, at $4,000 annually plus market interest rate.
Lind et al., pp. 62-63
XCorp(new)
A
B
C
D
E
Cash $25,000
Inventory: FMV $10,000 Basis 5,000
Unimproved Land: FMV $20,000 Basis 25,000
Equipment: FMV $25,000 Basis 5,000
*
Prior depreciation was $20,000.
Installment Note: FMV $20,000 Basis 2,000
**
*
**
25 shares
10 shares
20 shares
25 shares
20 shares
Basis ofProperty Received
HoldingPeriod Tacks
Received for land ($2,000 basis) sold last year and payable over 5 years, beginning in 2 years, at $4,000 annually plus market interest rate.
N/A N/A
Lind et al., pp. 62-63
XCorp(new)
A
B
C
D
E
Cash $25,000
Services: FMV $12,000
Unimproved Land: FMV $50,000 Basis 25,000
Equipment: FMV $35,000 Basis 5,000
**
X Corp assumes a nonrecourse mortgage of $30,000.
Prior depreciation was $20,000.
Services: FMV $17,000Cash 3,000
*
**
25 shares
10 shares + $2,000 cash
20 shares
25 shares + $10,000 cash
20 shares
RealizedGain <Loss>
RecognizedGain <Loss>
Basis ofShares Received
HoldingPeriod Tacks
*
Lind et al., pp. 62-63
XCorp(new)
A
B
C
D
E
Cash $25,000
Services: FMV $12,000
Unimproved Land: FMV $50,000 Basis 25,000
Equipment: FMV $35,000 Basis 5,000
**
X Corp assumes a nonrecourse mortgage of $30,000.
Prior depreciation was $20,000.
Services: FMV $17,000Cash 3,000
*
**
25 shares
10 shares + $2,000 cash
20 shares
25 shares + $10,000 cash
20 shares
*
Basis ofProperty Received
HoldingPeriod Tacks
TransferorRecognized
N/A N/A
N/A N/A
N/A N/A
$ 0
Lind et al., pp. 62-63
NewcoInc.(new)
A
B
Property: FMV $10,000 Basis 1,000
NOTES:A and B are unrelated.Their transfers are not part of integrated plan.B’s shares aren’t nonqualified preferred.
50 common shares
10 nonvoting preferred shares
RealizedGain <Loss>
RecognizedGain <Loss>
Basis ofShares Received
HoldingPeriod Tacks
Property: FMV $50,000 Basis 10,000
Jan 2
Mar 2
Basis ofProperty Received
HoldingPeriod Tacks
From A
From B
Lind et al., p. 71
NewcoInc.(new)
A
B
Property: FMV $10,000 Basis 1,000
NOTES:A and B are unrelated.Their transfers are part of integrated plan.B’s shares aren’t nonqualified preferred.
50 common shares
10 nonvoting preferred shares
RealizedGain <Loss>
RecognizedGain <Loss>
Basis ofShares Received
HoldingPeriod Tacks
Property: FMV $50,000 Basis 10,000
Jan 2
Mar 2
Basis ofProperty Received
HoldingPeriod Tacks
From A
From B
What if A gifts 25 shares to her daughter on March 5?
What if A gifts 25 shares to her daughter on January 5?
What if A sold 15 shares to E on May 2 under a binding, preexisting agreement without which A would not have formed Newco?
Lind et al., p. 71
Fundamental Tax IssuesContributions to Capital
Transferors
Corporation
Property
1. How much gain or loss does the corporation recognize?
2. What _____ does the corporation take in the property received?
3. When does the corporation’s holding period _______ in the property received?
Transferor Issues Corporation (Transferee) Issues
1. How much gain or loss do shareholders recognize?
2. How does contribution affect basis of shareholder’s _________ shares?
3. How much gain or loss do ______________ recognize?
Investment or Gift
Contributions to capitalTransferor issues
Transferors
Corporation
Property
• For shareholder transfers in nature of additional investment– No gain or loss– Increase basis of _______ shares
for ______ in contributed property
• For nonshareholder transfers in nature of gift (or inducement), ___ gain or loss
CIR v. Fink(S.Ct., 1987)
To attract new ______, two stockholders voluntarily surrendered
common shares, receiving no consideration and slightly
diminishing their ______. Thus, their net worth declined.
Taxpayers claimed an ordinary loss deduction for basis in
relinquished shares. Gov’t viewed surrender as _________
__________ to capital.
Contributions to capitalTransferor issues
Gain or loss recognized
Peter & Karla
Travco Corp(motor homes)
Sharessurrendered
Fell from 72.5% to 68.5%
CIR v. Fink(S.Ct., 1987)
The court adopted the “______ view,” that a stockholder’s
holding should be treated as ____ _______ investment. One
cannot tell whether such a surrender results in a loss until the
stockholder eventually ________ remaining shares. To rule
otherwise would allow stockholders in sinking companies to
convert ______ losses into _______ deductions at will.
Contributions to capitalTransferor issues
Gain or loss recognized
Peter & Karla
Travco Corp(motor homes)
Sharessurrendered
Held: When a controlling shareholder voluntarily surrenders shares, __ ____ is deductible. The court did not decide whether to treat surrenders resulting
in ___ of _________ differently.
Fell from 72.5% to 68.5%
Section 118(a)
(a) General rule.
In the case of a corporation, gross income does not include any contribution to the capital of the taxpayer.
Transferors
Corporation
Property
Contributions to capitalCorporate issues
Gain or loss recognized
Section 362(a)
(a) Property acquired by issuance of stock or as paid-in surplus.
If property was acquired … by a corporation--
Contributions to capitalCorporate issues
Basis of property received
(1) in connection with a transaction to which section 351 … applies, or
(2) As paid-in surplus or as a contribution to capital,
then the basis shall be the same as it would be in the hands of the transferor, increased in the amount of gain recognized to the transferor on such transfer.
Corporation
Property
Transferors
Section 362(c)(1)
(c) Special rule for certain contributions to capital.
(1) Property other than money. Notwithstanding subsection (a)(2), if property other than money--
(A) is acquired by a corporation … as a contribution to capital, and
(B) is not contributed by a shareholder as such, then the basis of such property shall be zero.
Corporation
Property
Transferors
Contributions to capitalCorporate issues
Basis of property received
Section 362(c)(2)
(c) Special rule for certain contributions to capital.
(2) Money. Notwithstanding subsection (a)(2), if money--
(A) is received by a corporation … as a contribution to capital, and
(B) is not contributed by a shareholder as such, then the basis of any property acquired with such money during the 12-month period beginning on the day the contribution is received shall be reduced by the amount of such contribution. The excess (if any) … shall be applied to the reduction … of the basis of any other property held by the taxpayer.
Contributions to capitalCorporate issues
Basis of property received
Section 1223(2)For purposes of this subtitle--
(2) In determining the period for which the taxpayer has held property however acquired there shall be included the period for which such property was held by any other person, if under this chapter such property has, for the purpose of determining gain or loss from a sale or exchange, the same basis in whole or in part in his hands as it would have in the hands of such other person.
Transferors
Corporation
Property
Contributions to capitalCorporate issues
Holding period of property received
Organizational Expenditures
____ and accounting fees_________ directors____________ meetingsState _____ fees
______ stock or securities__________ assets
Includes expenses of: Excludes expenses of:
• Must be incurred before end of ___ _____
• Elections– Deduct up to $_____ and phase out if > $50,000– Amortize remainder over ____ months
Start-Up Costs
Business ___________Business _________Operational nature _____
business starts
_____ attempts to acquire a specific business
________ business
Includes expenses of: Excludes expenses of:
• Must be incurred before ____ business begins
• Elections– Deduct up to $_____ and phase out if > $50,000– Amortize remainder over ____ months
Classifying Expenditures
May 1 Aug. 1 Dec. 31
FormCorporation
BeginOperations
End of ShortTaxable Year
Incur Organizational Expenditures
Amortize
Incur Start-Up Costs
Amortize
3 months 5 months
Compare and Contrast
Organizational Expenditures Start-Up Costs
Ordinary and Necessary
Business Expenses
Relevant Statute
When Incurred _________ new corporation
_________ new business
__________ business
When Deducted Up to $____ now; rest over __ years
Up to $____ now; rest over __ years
_____ or incurred
How Elected Statement attached to return
Statement attached to return
Not applicable