S-Corp, APIC, and dissolution

[OldJack]

Old Jack, you are out to lunch on this one. Nobody contributes property to a corporation in exchange for stock using basis as the value of stock. That’s ridiculous.

Of course the NUMBER of shares you want for your property in consideration of percentage of owning the corporation would be what you think your property is worth!!! This discusion is not about what shares you get for your property or your percentage of ownership... it is about recording FMV on the corporation books and records. If you own 50% of the shares issued by the corporation you own 50% of the corporation regardless of how the property is recorded on the financial statement.

Code section 358 (see below) says the tax basis for the property transfered "shall be the same as that of the property exchanged", and it is by state statute that the number of shares determines the % of ownership of all capital accounts and all assets of the corporation. This means the corporation's tax basis in the property is the same as was the individuals. The individuals basis in their shares of stock received is still the same basis as when holding the property. The corporation is owned by the number of shares held and not by shareholder basis or the par value of shares held.

So what do you think you have accomplished to record the stock at fair market value when only the basis is depreciable by the corporation, the FMV means nothing to any specific shareholder owning it as all shareholders own the property equally not by dollar amount but by number of shares held, and fair market value is just someone's opinion and may or may not be properly valued.

If the fair-market-value is not accurate you have misstated the corporate financial report thereby misleading 3rd party readers and subject to lawsuit. What is the fair-market-value for contributed property? Is it what it is worth to the contributing shareholder if he is the majority stockholder or is it different if he is a minority stockholder; is it the value to other shareholders or the corporation itself; value if sold to non shareholders (willing seller-buyer); value of future earnings potential if held/used by the individual or corporation; value if disposed of under duress, or something else?

As you can see fair-market-value is a questionable amount and does not belong on the corporation financial statements when the contributor is a related party, not independent in determining the value and the stock issue especially if he is to be a 100% owner. And of course who is determining the value... most likely it is the shareholders and not a qualified appraiser which may also not be qualified for such type appraisal.

The IRS only wants to deal with the fair market value issues on audit where value of stock for estate tax purpose is concerned, yet they quote fair market value as just a description of the property concerning non recognition issues since you can't talk about gain without talking about a fair market value. Nowhere will you find the IRS stating how or what should be recorded on the books and financial statements.

Lunch in this case is not subject to the 50% meal disallowance.

Section 358. Basis to Distributees

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(a) General rule
In the case of an exchange to which section 351, 354, 355, 356, or 361, applies--

(1) Nonrecognition property

The basis of the property permitted to be received under such section without the recognition of gain or loss shall be the same as that of the property exchanged--

(A) decreased by--

(i) the fair market value of any other property (except money) received by the taxpayer,

(ii) the amount of any money received by the taxpayer, and

(iii) the amount of loss to the taxpayer which was recognized on such exchange, and

(B) increased by--

(i) the amount which was treated as a dividend, and

(ii) the amount of gain to the taxpayer which was recognized on such exchange (not including any portion of such gain which was treated as a dividend).

(2) Other property

The basis of any other property (except money) received by the taxpayer shall be its fair market value.

[Brad Imsdahl]

I agree with you that for tax purposes, in a Section 351 exchange, the corporation only gets to deduct depreciation based upon the basis of the property. That is for tax purposes.

Bookkeeping under GAAP does not care what the tax basis of property is. Depreciation for GAAP purposes does not follow tax rules. The reason you record the property at its FMV for book purposes is because that is what determines the value of shares you get in exchange for the property.

If I contribute $1,000 worth of property in exchange for $1,000 worth of stock, for bookkeeping purposes, fixed assets is debited $1,000 and common stock is credited $1,000. It is irrelevant what the basis of the property is for tax purposes because GAAP doesn’t care about tax. For book purposes the basis of the asset is based on what the corporation paid for the asset. The corporation paid $1,000 for the asset because it gave me $1,000 worth of stock.

For Section 351 purposes, the code does not care how many shares of stock I got or what the value of those shares are. If all I get for giving the corporation my property is stock, it is tax free under Section 351 as long as the 80% rule is met.

[Brad Imsdahl]

This example is illustrated in TTB, page 18-5, second column, Example #1, and page 18-6, Example #2.

If you have a problem with those examples, OldJack, please provide a citation of something of authority that contradicts the theory behind those examples. So far I have checked a number of other publishers who illustrate Section 351 with examples, and not one contradicts what is illustrated in TTB examples.

Can you provide an example that does?

[Scarecrow]

If you have a problem with those examples, OldJack, please provide a citation of something of authority that contradicts the theory behind those examples.

It has become rather obvious for some time now that OldJack likes to argue with you, Brad, regardless of who is right. I don’t think he cares what other publishers say. He just wants to but heads with you.

You should go back to posting under an alias.

[jerome]

The IRS only wants to deal with the fair market value issues on audit where value of stock for estate tax purpose is concerned, yet they quote fair market value as just a description of the property concerning non recognition issues since you can't talk about gain without talking about a fair market value. Nowhere will you find the IRS stating how or what should be recorded on the books and financial statements.

Not true.

Regulation Sec. 1.351-1(a)(2) gives this example, C owns a patent right worth $25,000 and D owns a manufacturing plant worth $75,000. C and D organize the R Corporation with an authorized capital stock of $100,000. C transfers his patent right to the R Corporation for $25,000 of its stock and D transfers his plant to the new corporation for $75,000 of its stock. No gain or loss to C or D is recognized.

Clearly, the ownership percentage of each shareholder, and the value of the shares of stock each receives is based on the fair market value of the property contributed. It does not matter what their basis was in the property.

The second example illustrates that the difference between the fair market value and the tax basis of the property is taxable because after the transfer, someone else still owns 22% of the stock. Fair market value does matter when Section 351 does not apply.

In both cases, regardless of whether the transfer qualifies under Section 351, the amount of stock received in exchange for the assets contributed is based on fair market value, not tax basis.

[OldJack]

Clearly, the ownership percentage of each shareholder, and the value of the shares of stock each receives is based on the fair market value of the property contributed. It does not matter what their basis was in the property.

I completely agree that "corporate ownership percentage" of each shareholder is based on what they agree, which would obviously be what they think their asset is "worth to them" regardless of any appraisal or tax cost basis. The contributor would be a fool if he did not want an appropriate share of the corporation for what his property was worth to him.

One shareholder contributes cash of $1000 and takes 1000 shares, the other shareholder contributes property worth to him $1,000 and takes 1000 shares because they agreed on that. No problem. However, the fair market value of the property is not what is required to be booked as the asset of the company. Remember the value of the corporation was zero and the shares before issue and assets in the company was worthless so how can you say he should take any specific number of shares because the value of the shares are equal to his property. No.. it as simple as I want 50% of the company in order to contribute my property and since you are taking 1000 shares I want 1000 shares.

Under your theory how would you book where the estimated fair market value (willing seller-buyer) is decided to be $1,000 for the property but the contributor wants 80% of the "number" of shares and the other shareholder agrees even though he contributed $1,000 cash? Should the property be booked at $1,600 (1000+1000*80%), should it be booked at $1,000 FMV when that was not used in the deal, some other amount, or does it really matter?

True... the IRS is interested in fair market value for purposes of determining the question does this transaction qualify for non recognition of the contributors gain. I should have stated that but thought it was obvious.

Again, the IRS is talking taxes... in your IRS cite, where does it say how the asset should be recorded on the corporation books for financial statement purposes?

And please explain what difference fair market value makes to the shareholders if they are in agreement with how many shares each shall own in the corporation. Remember, in our example the corporation value was zero before contributions or issue of any stock issued as this is a new corporation with only authorized par value shares and no assets.

Is it your contention that the contributed asset must be presented on the corporate financial statements at fair market value? If so I would like to know where to find such explanation. Exaggerate the $1,000 figure to $1 million with a tax basis of $200, does that make a difference in how the asset should be shown on the audited historical cost basis financial statements of the corporation when the value represents unrecognized gains?

[jerome]

One shareholder contributes cash of $1000 and takes 1000 shares, the other shareholder contributes property worth to him $1,000 and takes 1000 shares because they agreed on that. No problem. However, the fair market value of the property is not what is required to be booked as the asset of the company.

I don’t know what school you went to, but my college text book on Fundamentals of Financial Accounting, by Welsch and Anthony, 1974 edition, states on page 421 under the heading Capital stock sold for noncash assets, when noncash considerations, such as buildings, land, machinery, and services, are received in payment for capital stock issued, the assets received should be recorded by the issuing corporation at the fair-market value of the stock issued at the date of the transaction in accordance with the cost principle. Alternatively, if the fair-market value of the stock issued cannot be determined, then the fair-market value of the consideration received (the noncash asset) should be used.

I don’t know how much plainer it can be stated. If one shareholder’s machine is worth $1,000 with a basis of $200, and he exchanges it for $1,000 worth of stock and another shareholder exchanges $1,000 cash for $1,000 worth of stock, and the two agree on the value placed on each, then according to my college text book, you book it at $1,000. Not $200.

What does your college text book say?

[OldJack]

>>What does your college text book say?<<

Well my college textbook goes back to before 1959 when I graduated college, with a degree in accounting, and I am unable to find the book although I know it is here somewhere. I will say on many occasions I have seen this type transaction recorded by others and by myself and it was not from your textbook. I assume you also have experience with this type recording and have done so with guidance from your textbook.

Its amazing how one can read a sentence different from another. I guess it is like what your definition of the word is is.

In the quote from your textbook the first part of the sentence is to record at the fair market value of the stock issued. In our case of the new corporation that is zero as the stock has no value. The alternative sentence says the fair market value of the consideration received and I expect you added the "( )" information making the consideration that of the (non cash asset) when the sentence may be talking about what the contributor received (paper worth zero?). In this case the contributor received stock in exchange for his property and to him that is only worth his tax basis since he is not selling it, receiving any gain or more than his tax basis. He will receive more when the corporation is liquidated. Or, if the sentence is talking about what value the property is to the corporation received, then it probably is not the same value that the contributor says it is as the asset has only $200 depreciation available and the fair market value is questionable.

Things are not always black and white as we would like.

[jerome]

In the quote from your textbook the first part of the sentence is to record at the fair market value of the stock issued. In our case of the new corporation that is zero as the stock has no value. The alternative sentence says the fair market value of the consideration received and I expect you added the "( )" information making the consideration that of the (non cash asset) when the sentence may be talking about what the contributor received (paper worth zero?). In this case the contributor received stock in exchange for his property and to him that is only worth his tax basis since he is not selling it, receiving any gain or more than his tax basis.

The consideration received is the noncash asset the corporation received in payment for the capital stock, as that is the heading under the paragraph and first sentence in the paragrpah. Since you do not know what the stock is worth, you use the fair market value of the asset (building, land, machinery, etc.) that was given to the corporation in exchange for the stock. That's what my college text book says. That's the way I do it.

Look, I'm not going to arguing accounting with a guy who graduated in 1959. Maybe that's how you guys did it back then. I was still knocking my sister’s blocks over in 1959.

Enjoy your retirement, OldJack.

[OldJack]

>>Enjoy your retirement, OldJack.<<
Unfortunately I am still practicing but hopefully this year may be my last as I have had too many tax seasons. Best regards and good luck to your practice.

[jainen]

tons of stuff

I'm sure there's tons of stuff I can disagree with in all this. I look forward eagerly to the opportunity, but unfortunately I'll have to wait until I retire myself to have time to read it all.