Question

Sean, a sole proprietor, is engaged in a service business. In the current year, Sean incorporates his business by forming Aqua Corporation. In exchange for all of its stock, Aqua receives: assets (basis of $400,000 and fair market value of $2 million) and loan due to a bank of $390,000. The proceeds from the bank loan were used by Sean to provide operating funds for the business. Aqua Corporation assumes all of the liabilities transferred to it. Does Sean recognize any gain on the incorporation? Explain. а. b. What basis does Sean have in the Aqua stock? What basis does Aqua Corporation have in the assets it receives? с. 30.000

Answer 1

Part A

Sean’s recognized gain = $0.

To apply § 357(c), the liabilities of $500,000 (trade accounts payable + bank loan = 110000+390000 = 500000) exceed the basis of the assets. As the trade accounts payable has resulted from a cash basis taxpayer, it is not counted and thus resulted in to the deduction. Therefore, there is no gain is recognized by Sean.

Part B

Sean’s basis in Aqua stock = basis in the assets - bank loan assumed by Aqua Corporation = $400,000 - $390,000 = $10,000

Part C

Aqua corporation’s basis in assets received = Sean’s basis in the assets= $400,000