Durler Company traded machinery with a book value of $720,000 and a fair value of $1,200,000. It received in exchange from Hoyle Company a machine with a fair value of $1,080,000 and cash of $120,000. Hoyle's machine has a book value of $1,140,000. What amount of gain should Durler recognize on the exchange (assuming lack of commercial substance)?

Question

Quizplus · Accepted Answer

When an exchange lacks commercial substance (which means that the future cash flows of the two assets are not expected to differ significantly), gain on the transaction should be recognized only to the extent of cash received. Therefore, Durler should allocate the $120,000 cash it received to the $720,000 book value of the machinery it gave up, leaving a balance of $360,000 ($1,080,000 - $720,000) to be applied against the gain on the transaction. The gain to be recognized is thus $48,000 ($360,000 - $312,000), where $312,000 represents the difference between the book value of the machinery given up ($720,000) and the book value of the machinery received ($1,140,000).

Durler Company Traded Machinery with a Book Value of $720,000