Question 1

Because boot is generated under § 357(b) (i.e., the liability is not supported by a bona fide business purpose), the transferor shareholder will always have to recognize gain.

Accepted Answer

The recognition of gain due to boot in a transaction under § 357(b) is not automatic. The transferor shareholder will have to recognize gain only to the extent that the boot received exceeds the basis of the stock exchanged. The lack of a bona fide business purpose may lead to the reclassification of the liability as not assumed, but gain recognition depends on the specifics of the transaction, including the amount of boot received relative to the shareholder's basis in the exchanged property.

Question 2

To help avoid the thin capitalization problem, it is advisable to make the repayment of the debt contingent upon the corporation's earnings.

Accepted Answer

The answer of To help avoid the thin capitalization problem,...

Question 3

When depreciable property is transferred to a controlled corporation under § 351, any recapture potential disappears and does not carry over to the corporation.

Accepted Answer

When depreciable property is transferred to a controlled corporation under § 351, any recapture potential (such as depreciation recapture under § 1245 or § 1250) carries over to the corporation. This means the corporation may have to recognize this recapture income upon a subsequent disposition of the property.

Question 4

A city contributes $500,000 to a corporation as an inducement to locate in the city. Within the next 12 months, the corporation uses the money to purchase property. The corporation has income of $500,000 and must reduce its tax basis in the property by the same amount.

Accepted Answer

The answer of A city contributes $500,000 to a corporation...

Question 5

In order to encourage the development of an industrial park, a county donates land to Ecru Corporation. The donation does not result in gross income to Ecru.

Accepted Answer

The donation of land to Ecru Corporation does not result in gross income to Ecru.

Question 6

In general, the basis of property to a corporation in a transfer that qualifies as a nontaxable exchange under § 351 is the basis in the hands of the transferor shareholder decreased by the amount of any gain recognized on the transfer.

Accepted Answer

In a transfer that qualifies as a nontaxable exchange under § 351, the basis of the property to the corporation is generally the same as the basis in the hands of the transferor shareholder, increased by any gain recognized by the shareholder on the transfer.

Question 7

In determining whether § 357(c) applies, assess whether the liabilities involved exceed the bases of all assets a shareholder transfers to the corporation.

Accepted Answer

§ 357(c) of the Internal Revenue Code applies if the liabilities involved in a transfer to a corporation exceed the bases of all assets transferred to the corporation by the shareholder.

Question 8

A taxpayer transfers assets and liabilities to a corporation in return for its stock. If the liabilities exceed the basis of the assets transferred, the taxpayer will have a negative basis in the stock.

Accepted Answer

When a taxpayer transfers assets and liabilities to a corporation in return for its stock, if the liabilities exceed the assets' basis, it does not result in a negative basis in the stock. Instead, the excess liabilities over the basis of the assets transferred are treated as gain to the taxpayer.

Question 9

A shareholder transfers a capital asset to Red Corporation for its stock. If the transfer qualifies under § 351, Red's holding period for the asset begins on the day of the exchange.

Accepted Answer

Red Corporation's holding period for the capital asset includes the shareholder's holding period, provided the asset was a capital asset or a Section 1231 asset in the hands of the transferor.

Question 10

If both §§ 357(b) and (c) apply to the same transfer (i.e., the liability is not supported by a bona fide business purpose and also exceeds the basis of the properties transferred), § 357(c) predominates.

Accepted Answer

The answer of If both §§ 357(b) and (c) apply...

Question 11

When incorporating her sole proprietorship, Samantha transfers all of its assets and liabilities. Included in the $30,000 of liabilities assumed by the corporation is $500 that relates to a personal expenditure. Under these circumstances, the entire $30,000 will be treated as boot.

Accepted Answer

The answer of When incorporating her sole proprietorship, Samantha transfers...

Question 12

Carl and Ben form Eagle Corporation. Carl transfers cash of $50,000 for 50 shares of stock of Eagle. Ben transfers proprietary information with a tax basis of zero and a fair market value of $50,000 for the remaining 50 shares in Eagle. Carl will have a tax basis of $50,000 in his stock in Eagle Corporation and Ben's basis in his stock will be zero.

Accepted Answer

The tax basis of Carl's stock is determined by the amount of cash he contributed, which is $50,000. The tax basis of Ben's stock is determined by the fair market value of the property he contributed, which is also $50,000. Therefore, both Carl and Ben will have a tax basis of $50,000 in their respective shares of stock in Eagle Corporation.

Question 13

A shareholder contributes land to his wholly owned corporation but receives no stock in return. The corporation has a zero basis in the land.

Accepted Answer

When a shareholder contributes property (such as land) to a corporation in exchange for stock, the corporation's basis in the property is generally the same as the shareholder's adjusted basis, just before the contribution. This rule applies even if the shareholder owns 100% of the corporation.

Question 14

To ease a liquidity problem, all of the shareholders of Osprey Corporation contribute additional cash to its capital. Osprey has no tax consequences from the contribution.

Accepted Answer

Contributions to a corporation's capital do not result in tax consequences for the corporation.

Question 15

Basis of appreciated property transferred minus boot received (including liabilities transferred) plus gain recognized equals basis of stock received in a § 351 transfer.

Accepted Answer

This is known as the "substantially equivalent basis" rule for transfers of property to a corporation in exchange for stock under section 351 of the Internal Revenue Code. The basis of the stock received by the transferor is not simply the fair market value of the property transferred, but is instead calculated based on the appreciated basis of the property transferred, reduced by any liabilities assumed by the corporation, and increased by any gain recognized by the transferor as a result of the transfer.

Question 16

Kim, a real estate dealer, and others form Eagle Corporation under § 351. Kim contributes inventory (land held for resale) in return for Eagle stock. The holding period for the stock includes the holding period of the inventory.

Accepted Answer

Under § 351, the holding period for the stock received does not include the holding period of the inventory (land held for resale) contributed to the corporation. The holding period for the stock begins when the stock is acquired, not from when the inventory was originally held by the contributor.

Question 17

A shareholder's holding period for stock received under § 351 can include the holding period of the property transferred to the corporation.

Accepted Answer

According to § 1223(2), a shareholder's holding period for stock received under § 351 can include the holding period of the property transferred to the corporation. This is known as the "carryover basis" rule.

Question 18

When a taxpayer transfers property subject to a mortgage to a controlled corporation in an exchange qualifying under § 351, the transferor shareholder's basis in stock received in the transferee corporation is increased by the amount of the mortgage on the property.

Accepted Answer

In a § 351 exchange, the transferor's basis in the stock received is decreased (not increased) by the amount of the liability (such as a mortgage) assumed by the corporation. This ensures that the transferor does not recognize a gain or loss on the transfer of the property to the corporation.

Question 19

In return for legal services worth $60,000 rendered incident to its formation, Crimson Corporation issues stock to Greta, an attorney. Crimson cannot immediately deduct the value of any of this stock but instead must capitalize it as an organizational expenditure.

Accepted Answer

According to the tax laws, expenses incurred in forming a corporation must be capitalized as organizational expenditures and cannot be immediately deducted. The value of the stock issued to Greta falls under this category, as it was given as compensation for legal services rendered in the formation of the corporation.

Question 20

In structuring the capitalization of a corporation, the tax law is neutral for the investor as to debt versus equity financing.

Accepted Answer

The tax law may give preferential treatment to either debt or equity financing depending on various factors, such as interest deductibility for debt financing or dividend exclusion for equity financing. Therefore, the tax law is not neutral for the investor in choosing between debt and equity financing.

Quiz 4: Corporations Organization and Capital Structure