Question

EXAMPLE The Big Picture Return to the facts of The Ria Picture on p. 4-1. Assume that you learn that David is not inta becoming a stockholder in Transformation, Inc., and that Emily and Ethan will transfer their for 100% of the stock. In addition, you learn that Emily's building is subject to a liability of that Transformation assumes. Consequently, Emily receives her Transformation stock and is of the $70,000 liability in exchange for property with an adjusted basis of $400,000 and fair value of $2,000,000 The exchange is tax-free to Emily under $ 351 because the release of a liability is not treated asbe under $ 357(a). However, the basis to Emily of the Transformation stock is $330,000 15400.000 (hal. property transferred) - $70,000 (amount of the liability assumed by Transformation)]. (basis of not interested in fer their property Wity of $70,000 ock and is relieved 000 and fair market das boot The general rule of 8 357(a) has two exceptions: (1) 8 357(b) provides that if the principal purpose of the assumption of the liabilities is to avoid tax or if there is no bona fide business purpose behind the exchange, the liabilities are treated as boot (2) 8 357(c) provides that if the sum of the liabilities exceeds the adjusted basis of the properties transferred, the excess is taxable gain. Exception (1): Tax Avoidance or No Bona Fide Business Purpose Satisfying the bona fide business purpose under $ 357(b) is not difficult if the liabilities are incurred in connection with the transferor's normal course of conducting a trade or business. But this requirement can cause difficulty if the liability is taken out shortly before the property is transferred and the proceeds are utilized for personal purposes." This type of situation is analogous to a cash distribution by the corporation to the share holder, which is taxed as boot.
write an explanation in Word format for the answer to Example 16

Answer 1

Generally, transferring property into a corporation in exchange for its stock is a taxable event. The transaction is treated as if you sold property to the corporation in return for cash.

Whether you're setting up a new corporation with just yourself or other people, such as partners in a partnership, or getting involved in an existing corporation, under IRC Section 351(a) you can defer (put off) any resulting tax consequence.

Under section 351(a) no gain or loss is recognized (reported) provided:

• You receive ONLY STOCK in exchange for your property, and
• You are in CONTROL of the corporation immediately after the exchange.

An exception to tax-free treatment is contained in section 357(c), which generally provides that a transferor in a section 351 transaction recognizes gain to the extent that any liabilities assumed by the corporation on the transfer exceed the transferor’s aggregate adjusted basis in the assets transferred.

Since in the present case Transformation Inc does not assume any liabilities over and above the adjusted basis in the assets transferred, the exchange is tax free to emily.