Halverson Tooling Inc, a newly formed calendar-year C corporation, receives a building from its sole shareholder in exchange for all of its stock in a transaction that qualifies for control under Section 351. The shareholder's adjusted basis in the building is 200,000 dollars and its fair market value is 350,000 dollars. To equalise the deal the corporation also pays the shareholder 60,000 dollars in cash, and the shareholder receives no liabilities relief. How much gain must the shareholder recognise on this exchange?
- A0 dollars, because a transfer of property solely to a controlled corporation under Section 351 is fully tax-free to the transferring shareholder regardless of any cash received.
- B150,000 dollars, because the entire built-in gain in the building of 350,000 dollars minus 200,000 dollars must be recognised once any cash boot is received.
- C60,000 dollars, because gain is recognised to the extent of the 60,000 dollars of cash boot received, which is less than the 150,000 dollar realised gain. Correct
- D90,000 dollars, being the 150,000 dollar realised gain reduced by the 60,000 dollars of cash boot that the shareholder received in the exchange.
Why A is wrong: It is tempting to treat Section 351 as completely tax-free, but nonrecognition does not extend to boot; cash received is boot that triggers recognised gain, so the answer is not zero.
Why B is wrong: Receiving boot does not strip away all nonrecognition; recognised gain is capped at the boot received, not the full 150,000 dollar realised gain, so this overstates the taxable amount.
Why C is correct: Realised gain is 350,000 minus 200,000, or 150,000 dollars, and Section 351(b) recognises gain equal to the lesser of the boot received (60,000 dollars) or the realised gain, so 60,000 dollars is recognised.
Why D is wrong: Subtracting the boot from the realised gain inverts the rule; Section 351(b) recognises gain equal to the boot itself, not the realised gain net of boot, so 90,000 dollars is the wrong figure.