Chapter
2
Corporate Formations
and Capital Structure
(Day 3)
IRC §351 – Special Cases
Assumption of transferors’ liabilities
Reduction for loss property
Slide D3-2
Slide D3-3
Assumption of Liabilities
If the corporation assumes the transferors’
liabilities:
The transaction is not disqualified from IRC
§351 treatment [IRC §357(a)(1)]
The liability assumed is generally not treated
as boot [IRC §357(a)(1)]
Slide D3-4
Assumption of Liabilities
Exceptions:
If there is a tax avoidance purpose, the entire
liability assumed is treated as boot received
[IRC §357(b)(1)]
If liabilities assumed > basis of the property
transferred, the excess is recognized as a gain
by the transferor [IRC §357(c)(1)]
Exception for liabilities giving rise to a deduction when
paid [IRC §357(c)(3)]
Slide D3-5
Assumption of Liabilities
If the corporation assumes the transferors’
liabilities, the assumption of the liability is
treated like boot for purposes of calculating
the transferor’s basis in the stock received
[IRC §358(d)(1)]
Exception for liabilities that would give rise to a
deduction when paid [IRC §358(d)(2)]
Slide D3-6
Assumption of Liabilities
Problems C2-43, C2-44, C2-45
Slide D3-7
Reduction for Loss Property
When total adjusted basis for all properties
transferred exceeds the total fair market
value of the properties, the corporation’s
basis is limited to the net fair market value
[IRC §362(e)(2)(A)]
Reduction in basis is allocated among the
properties based on relative built-in losses
[IRC §362(e)(2)(B)]
Slide D3-8
Reduction for Loss Property
Transferor and corporation may elect to
apply the basis reduction to the transferor’s
stock instead of the corporation’s assets
[IRC §362(e)(2)(A)]
Slide D3-9
Example - Loss Property
Jill transfers land ($122,000 adjusted basis,
$100,000 FMV) to New Corp in exchange
for 100% of its common stock
Jill does not recognize her loss
Without the election:
Jill’s stock basis is $122,000
New Corp’s land basis is $100,000
With election:
Jill’s stock basis is $100,000
New Corp’s land basis is $122,000
Capital Structure
Slide D3-11
Classification as Stock or Debt
Form of the obligation may not control the
determination of status:
IRC §385(a) – Authority to prescribe regulations
IRC §385(b) – Factors to consider
Slide D3-12
Debt Obligations
Interest expense paid is deductible to the
corporation [IRC §163(a)]
Interest income received is taxable to the
debt holder [IRC §61(a)(4)]
Slide D3-13
Debt Obligations
Original issue discount is amortized and
deducted by corporation as additional
interest paid [IRC §163(e)]
Amortization of OID is taxable interest income
to the debt holder [IRC §1272]
Slide D3-14
Debt Obligations
Premium on debt obligations is amortized
and reduces the interest paid deduction of
the corporation [Reg. §1.61-13(a)]
Debt holder can elect to deduct premium
amortization [IRC §171(a) and (c)]
Slide D3-15
Debt Obligations
When a corporation repays principal on its
debt obligations, the repayment is generally
not a taxable transaction to the corporation
Slide D3-16
Debt Obligations
If a corporation repurchases its own debt
obligations at price greater than the original
issue price less any premium amortization
or plus any discount amortization, the
difference is deductible by the corporation
as additional interest expense
[Reg. §1.163-7(c)]
Slide D3-17
Debt Obligations
If a corporation repurchases its own debt
obligations at price less than the original
issue price less any premium amortization
or plus any discount amortization, then the
difference is income from the discharge of
indebtedness to the corporation
[Reg. §1.61-12(c)(2)(ii)]
Slide D3-18
Debt Obligations
When a debt holder sells or exchanges a
debt obligation or receives a principal
repayment, any difference between the
amount realized and the debt holders’
adjusted basis is a taxable gain or loss
[IRC §1001(c)]