Question

Kion and Simba formed Lion Inc., a C-Corporation. Kion transfers land (FMV 650,000 and adjusted basis of $350,000) for 50% of the stock in the corporation. Simba transfers equipment (FMV 350,000 adjusted basis of $200,000) and will provide management services worth $250,000 after Lion Inc. opens for business for 50% of the stock in the corporation.

a. Will the transfer qualify under §351 as a tax free transfer? Explain.

b. What are the tax consequences to Kion and Simba including the basis in the stock they received?

c. What is Lion Inc.’s basis in the land and equipment?

d. How would your answers change if Simba’s property had a FMV of $3,500 and basis of $2,000 instead?

Answer 1

A. No, the transfer will not qualify under section 351 free transfer. As it doesn't satisfies the conditions of the section

1. The transferor is getting only stock in lieu of transfer.

2. Transferor gets control(atleast 80%) of ownership in corporation.(which is not fulfilled in this case)

Hence, the transfer triggers tax liability.

B. Section 351 triggers tax liability when the shareholder or transferor actually sells the stock.

The difference in the sale value of stock and the adjusted basis of property/equipment would be taxable.

But the loss would not be deductible, if they own more than 50% of stock.

C. The basis of properties transferred to Lion would be:

3,50,000$ and 2,00,000$.

D. If the property of Simba had FMV of 3500 and basis of 2000 then also he will be liable for capital gains tax as the basis of property is compared to the basis of stock.