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Exam 12: Corporations: Organization, Capital Structure, and Operating Rules

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Question 51

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The receipt of nonqualified preferred stock in exchange for the transfer of appreciated property to a controlled corporation results in recognition of gain to the transferor.

A) True
B) False

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Question 52

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Employment taxes apply to all entity forms of operating a business. As a result, employment taxes are a neutral factor in selecting the most tax effective form of operating a business.

A) True
B) False

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Question 53

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Ruth transfers property worth $200,000 (basis of $60,000) to Goldfinch Corporation. In return, she receives 80% of its stock (worth $180,000) and a long-term note, executed by Goldfinch and made payable to Ruth (worth $20,000). Ruth will recognize no gain on the transfer.

Gabriella and Juanita form Luster Corporation. Gabriella transfers cash of $50,000 for 50 shares of stock, while Juanita transfers information concerning a proprietary process (basis of zero and fair market value of $50,000) for 50 shares of stock.

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.

Elk, a C corporation, has $370,000 operating income and $290,000 operating expenses during the year. In addition, Elk has a $10,000 long-term capital gain and a $17,000 short-term capital loss. Elk's taxable income is:

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.

Kevin and Nicole form Indigo Corporation with the following transfers: inventory from Kevin (basis of $360,000 and fair market value of $400,000) and improved real estate from Nicole (basis of $320,000 and fair market value of $375,000) . Nicole, an accountant, agrees to contribute her services (worth $25,000) in organizing Indigo. The corporation's stock is distributed equally to Kevin and Nicole. As a result of these transfers:

Leah transfers equipment (basis of $400,000 and fair market value of $500,000) for additional stock in Crow Corporation. After the transfer, Leah owns 80% of Crow's stock. Associated with the equipment is § 1245 depreciation recapture potential of $70,000. As a result of the transfer:

In order to induce Yellow Corporation to build a new manufacturing facility in Knoxville, Tennessee, the city donates land (fair market value of $400,000) and cash of $100,000 to the corporation. Several months after the donation, Yellow Corporation spends $450,000 (which includes the $100,000 received from Knoxville) on the construction of a new plant located on the donated land.

Stock in Merlin Corporation is held equally by Jane, Eve, and Fred. Merlin seeks additional capital to buy a valuable tract of land that will cost $6,000,000. Jane, Eve, and Fred propose to loan Merlin $2,000,000 each, taking from Merlin a $2,000,000 ten-year note with interest payable annually at five points above the prime rate. Merlin Corporation has current taxable income of $7,000,000. How are the payments on the notes treated for tax purposes?

Schedule M-1 is used to reconcile net income as computed for financial accounting purposes with taxable income reported on the corporation's income tax return.

Schedule M-3 is similar to Schedule M-1 in that the form is designed to reconcile net income per books with taxable income. However, an objective of Schedule M-3 is more transparency between financial statements and tax returns than that provided by Schedule M-1.

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

Tomas owns a sole proprietorship, and Lucy is the sole shareholder of a C corporation. In the current year both businesses make a net profit of $60,000. Neither business distributes any funds to the owners in the year. For the current year, Tomas must report $60,000 of income on his individual tax return, but Lucy is not required to report any income from the corporation on her individual tax return.

When forming a corporation, a transferor-shareholder may choose to receive some corporate debt along with stock. Identify some of the issues the transferor must consider when deciding whether debt should be a part of the transaction.

Four individuals form Chickadee Corporation under § 351. Two of these individuals, Jane and Walt, made the following contributions: Both Jane and Walt receive stock in Chickadee Corporation equal to the value of their investments.

Carol and Candace are equal partners in Peach Partnership. In the current year, Peach had a net profit of $75,000 ($250,000 gross income - $175,000 operating expenses) and distributed $25,000 to each partner. Peach must pay tax on $75,000 of income.

Eagle Company, a partnership, had a short-term capital loss of $10,000 during the year. Aaron, who owns 25% of Eagle, will report $2,500 of Eagle's short-term capital loss on his individual tax return.

For purposes of the estimated tax payment rules, a "large corporation" is defined as a corporation that had taxable income of $1 million or more in any of the three preceding years.