[CPA_2018]

I feel like I am getting the “gain recognized” for a like kind exchange and corporate formation confused and just want to confirm my understanding.

In a like-kind exchange, cash received and the liability assumed by the buyer would be considered “boot”. When calculating the gain recognized, you would use “boot” to determine gain recognized.

For example, Becker CPA-06426: A taxpayer is trading in an automobile used solely for business purposes for another automobile to be used in his business. The automobile originally cost $35,000 and he has taken $18,000 in depreciation.The old automobile is currently worth $20,000 and the new automobile the taxpayer wants in exchange is only worth $17,500. The other party also agrees to assume a liability from the taxpayer secured by the old auto of $2,500. What is the gain or loss recognized by the taxpayer on this transaction?

In this example, the gain recognized is 2,500 (lesser of realized gain 3K or liability relieved 2.5K)

However, when it comes to a corporate formation and shareholders own more than 80%, the liability assumed by the corporation is still considered boot, but is not a factor when determining gain recognized. Instead gain recognized is the lesser of cash received or realized gain.

Can someone please explain if the above is correct? I want to make sure not to confuse the liability as I have a bad habit of including it when trying to calculate gain recognized.

[Bourne]

I had a similar question and a fellow Another71'er posted these notes. They lay it out really well.

(a) No gain or loss shall be recognized if property is transferred to a C 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 (80% or more control defined section 368(c) of the corporation → shareholder gives corporation property and corporation gives shareholder stock then there is no gain or loss unless corporation also gives shareholder cash or property in addition to stock
Exception to IRC 351: However, shareholder would recognize taxable gain if shareholder receives cash or property in addition to stock

(1) gain (if any) to such recipient shall be recognized, but not in excess of—
(A) the amount of money received, plus
(B) the fair market value of such other property received; and
(2) no loss to such recipient shall be recognized

Example:
4 people start a C corporation for 25% interest each. All of them contribute property or cash, no one contributes services. **Since no services are contributed for stock… at least 80% (in this case 100%) of the corporation is now controlled by people who donated property, so section IRC 351 applies and no gains will be recognized EXCEPT for people who get cash or property back from the corporation.

Jones contributes this to the corporation for his 25% share of stock and also gets $10,000 cash:

**Stock exchanged for services is not counted toward the 80% control threshold. No gain or loss recognized when services are given in exchange for stock. The shareholder basis is the FMV of the services given

FMV of property given: $120,000
Liability on property given: $60,000
Jones basis of property given: $100,000
Cash contributed: 0

Jones needs to recognize a gain since he got 10k cash from the corp. His gain realized would be 20k (120K FMV -100K basis) but he only got 10k cash so his recognized gain is only up to that amount $10,000

(recognized gain is lessor of $10K boot received or $20K realized gain).

JONES (shareholder) basis in the 25% stock is now: 100,000 (basis in property given) + 10,000 (recognized gain)– 10,000 (boot received) – 60,000 (liability given up) = 40,000 (stock basis since cash is received)

CORPORATION basis in Jones 25% = 100,000 (basis given) + 10,000 (recognized gain) = 110,000

Corporation basis does NOT factor liability assumed or boot received/given → that is for shareholder basis

Same example as above but with different numbers. Shareholder gives property (but not cash) in exchange for Corporation’s stock. Corporation also gives shareholder $10K cash (so shareholder has to now recognize gain)

FMV of property given: $105,000
Liability on property given: $60,000
Jones basis of property given: $100,000
Cash contributed: 0
Cash received $10,000

Recognized gain in the smaller of $5,000 realized gain or $10,000 boot received

So, the gain recognized is $5,000 ($105K FMV – $100K basis)

100,000 (basis in property given) + 5,000 (recognized gain)– 10,000 (boot received) – 60,000 (liability given up) = 35,000 (basis in property for shareholder in a Corporation)

Basis for corporation would be: $100K (basis) + 5K (recognized gain) = $105K (corporation basis)

Corporation basis does not factor liability assumed or boot received/given → that is for shareholder basis

[CPA_2018]

Thanks @bourne – I will review this and try to nail down all of the little details

[Author]

Replies