APIC create two classes of stock?

[ChrisCPA]

I have a sole proprietorship that will be incorporating. We will do a section 351 transfer of assets into the newly formed s corporation. The sole proprietorship has very little equity based on the historical book value of the assets. We will also be transferring debt along with the assets but there will be no gain since the assets will be slightly more than the debt. While this is happening we will be purchasing the assets and goodwill of another entity and admitting a new shareholder at the time of incorporation. As mentioned before there is little equity in the business but the FMV of the assets over debt would require the new shareholder to contribute cash in exchange for stock to equal the FMV equity. This would create additional paid in capital since the assets are transferred at the tax basis and not the FMV. This APIC would only increase the basis of the new shareholder. Does this cause any problems with the stock such as a second class? The additional contribution will be unequal but the original stock issue will be equal.

[Bees Knees]

The difference between basis and FMV of assets transferred in a Section 351 exchange does not create 2 classes of stock.

TTB, page 18-5 gives this example:

Example #1: Tom owns a widget maker with a FMV of
$50,000 and an adjusted basis of $22,000. Tom and Dustin
decide to go into business together and form a corporation.
Tom contributes the widget maker to the corporation in exchange
for $50,000 of the corporation’s stock. Dustin contributes $50,000 in
cash. Because Tom and Dustin’s combined stock is 80% or more of the
corporation’s stock immediately after the exchange, the requirements
for Section 351 are met and no gain is recognized. The corporation’s
basis in the widget maker is $22,000. Tom’s basis in stock is $22,000.
Dustin’s basis in stock is $50,000.

Tom and Dustin are both equal shareholders in the corporation and each receive equal dividends. The only thing different is their unequal basis in stock. There is no rule that says if this were an S corporation, this situation would create two classes of stock. It is simply a case of equal shareholders who contribute an equal amount of assets at their FMV with unequal basis.

Your example goes one step further. You have liabilities in the mix. However, the shareholder contributing the assets with liabilities is required to kick in cash to even things out. For example, say Tom in the example above contributes his widget maker worth $50,000 in exchange for $50,000 of corporate stock, but he also transfers a $10,000 liability on the widget maker to the corporation. He has to contribute an extra $10,000 cash to even things out. Why? Because the widget maker with its $10,000 liability is really no longer worth $50,000. It is worth $40,000 when you consider there is a liability attached to it. So the $10,000 cash is treated the same as if Tom paid off the liability first, and then contributed the thing to the corporation in exchange for his stock.

Again, none of this has anything to do with the two classes of stock issue. Section 351 by its very nature creates unequal basis in stock, but not two classes of stock. The two classes of stock would be created if you made distributions unequal to the FMV of stock received. For example, say you penalized Tom for contributing an asset with a tax basis less than FMV. He only gets 40% instead of 50% because the corporation cannot take a depreciation deduction based on FMV. That could create a 2nd class of stock because Tom’s $50,000 worth of stock does not get the same distributions as Dustin’s $50,000 worth of stock.