@Q01 旼컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴커 쿎AN I INCORPORATE MY BUSINESS IN A TAX-FREE TRANSACTION?� 읕컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴켸 If you transfer money or other property to a controlled cor- poration in exchange for stock of the corporation, either to capitalize a new corporation or to add to the capital of a corporation that already has assets, the general rule is that you will not recognize any taxable gain or loss on the transaction. However, for such a transfer to qualify, the tax law requires that the person or persons who transfer the property or money must control AT LEAST 80% of the voting stock of the corporation and at least 80% of the shares of any other classes of stock, immediately after the exchange. QUESTION: Will you, together with any other transferors in the same transaction, own at least 80% of the voting stock and 80% of each other class of stock of the corporation, im- mediately after the proposed exchange of assets for stock? @YN 01\Q03 02\Q02 @Q02 CONCLUSION: Your transfer of assets to the corporation will not technically qualify as non-taxable. However, note that you won't necessarily have to recognize taxable gain if the only kinds of assets you transfer to the corporation in exchange for the stock or securities you re- ceive are the following: . Money; or . assets that do not have a value in excess of their tax basis; or, . a combination of the above. @STOP @Q03 So far, so good. It appears that a transfer of assets to your corporation for stock (and possibly for notes, bonds or other securities to be issued by the corporation) should qua- lify as "nontaxable" under Section 351 of the tax code. However, things are rarely that simple under our tax system. Your "nontaxable" transaction may still be taxable, at least in part, if you receive anything other than stock of the cor- poration in exchange for the assets you transfer into the corporation (such as promissory notes, other securities, cash, or other property). Anything you receive back from the corporation in the transaction, other than its own common or preferred stock, will be considered "boot," and any "unreal- ized gains" on property transferred to the corporation will be taxable, in an amount equal to the smaller of: (a) such unrealized gain, or (b) the amount of "boot" received. QUESTION: Will you receive any "boot" (money or any other kind of property, other than stock issued by the corpor- ation in question) on the transaction? @YN 01\Q04 02\Q07 @Q04 CONCLUSION: Then you may have to pay tax on this so-called "nontaxable" transfer of assets to your corporation. But NOT if the only assets you transfer to the corporation are the following: . Cash; and/or . Assets which have tax basis equal to or greater than fair market value at the time of the transfer. (You can usually ignore accounts receivable of a cash-basis busi- ness, even though they have a zero tax basis, although this can get somewhat technical in some cases.) QUESTION: Will you be transferring any property to the cor- poration (other than accounts receivable of a cash-basis business) that has a value greater than its tax basis? @YN 01\Q05 02\Q06 @Q05 FURTHER CONCLUSION: Then it appears you will have to recog- nize some or all of the "unrealized appreciation" as taxable gain on the incorporation or transfer of assets to your cor- poration, in this so-called "nontaxable" transfer. Note that the maximum amount of gain you must recognize, re- gardless of how much "boot" you receive, will not exceed the amount of your "unrealized gain" on the property (i.e., the amount, if any, by which the value of any item or items of property exceeds the tax basis of such items). (Tax "basis" is usually, but not always, the cost of an asset.) This may not be entirely bad, however, since the corporation will obtain a "step-up" in its tax basis for any assets on which you have to report taxable gain on the transfer. 旼컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴커 � EXAMPLE: If you report a $1,000 tax-� � able gain on transfer of a computer� � to the corporation, the corporation� � will be allowed to increase its "tax� � basis" for the computer by $1,000,� � which will give it additional deprec-� � iation deductions over the period in� � which it depreciates the computer. � 읕컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴컴켸 @STOP @Q06 FURTHER CONCLUSION: Then there appears to be virtually no possibility that you will have any taxable gain to recognize on the transfer of assets to your corporation, since there is no gain to recognize where you have no appreciated assets (assets with a value in excess of tax basis) that you are transferring in the transaction. CAUTION: You should still consult a competent tax profes- sional before you transfer any assets to a corporation. Even if the transfer itself is nontaxable, there can be other ramifications which might make such a transfer hazardous to your financial health! FURTHER CAUTION: If, as part of the transaction, you re- ceive some of the stock in the corporation IN EXCHANGE FOR SERVICES (prior services, or to be rendered in the future), then you will have to report as income the value of the stock received for such services. Tax-free treatment is only allowed for transfers of PROPERTY to a controlled cor- poration in exchange for stock, not for transfers of SERVICES. @STOP @Q07 CONCLUSION: Even if you receive no "boot" on the proposed transfer of assets to your corporation in exchange (only) for its stock, you still aren't necessarily home free. If you transfer an asset to the corporation that is subject to a debt that exceeds its its tax basis, the excess of the amount of the debt assumed by the corporation (or taken "subject to" by it) over the tax basis of the asset is a taxable gain. For example, if you transfer a piece of land with a cost of $30,000 to the corporation, subject to a mortgage of $35,000, and with a current value of $50,000, you will recognize a tax- able gain of $5,000 ($35,000 - $30,000), regardless of the value of the land. However, if you had placed the mortgage on the property just before the transfer, for TAX AVOIDANCE PURPOSES, the entire $35,000 mortgage would be treated as "boot" and you would recognize the full $20,000 gain ($50000 "boot" minus your $30000 basis.) QUESTION: Does the debt on any property to be transferred to the corporation exceed its "tax basis," or was debt placed on the property in advance for "tax avoidance purposes"? @YN 01\Q08 02\Q09 @Q08 FURTHER CONCLUSION: Then you will probably incur taxable gain, to at least the extent by which the debt exceeds the tax basis of the asset in question, and perhaps an even lar- ger gain if the IRS and the courts decide that you took on the debt for tax avoidance purposes before it was trans- ferred to the corporation. @STOP @Q09 FURTHER CONCLUSION: Then it appears that you should be able to do the transfer of assets to your corporation on a non- taxable basis, without recognizing either gain or loss on the transaction. However, because the tax law in this area is quite technical and complex, with many potential ramifi- cations and traps for the unwary, it is STRONGLY recommended that you consult a good tax advisor before you transfer any kind of assets to a corporation. CAUTION: If, as part of the transaction, you receive some of the stock in the corporation IN EXCHANGE FOR SERVICES (prior services, or to be rendered in the future), then you will have to report as income the value of the stock re- ceived for such services. Tax-free treatment is only al- lowed for transfers of PROPERTY to a controlled corporation in exchange for stock, not for transfers of SERVICES. @STOP @HELP @H\01 Note that the Internal Revenue Service and at least one federal court have held that, in addition to the 80% con- trol requirement, there must be a valid business purpose in order for a trans- fer to a controlled corporation to qualify for tax-free treatment. (Note also that even if a transfer does not qualify as "non-taxable," there is no taxable gain to recognize if only cash is transferred to the corporation, or assets that have not appreciated in value beyond their "tax basis.") @H\02 Note also, that where "control" is ab- sent, as you have indicated would be the case in your situation, you may be able to even recognize a taxable loss, if you exchanged an asset that has a tax basis that is greater than fair market value. @H\03 Until October 3, 1989, you could re- ceive "securities" (bonds, long-term notes and the like) from the corpora- tion also, but since then any such se- curities are treated like "boot." (Note that if you transfer property having a tax basis of only $3,000, but worth $10,000, to a controlled corpor- tion, you would have $7,000 of poten- tially taxable "unrealized gain." If you receive $2,000 of boot in the ex- change of assets for stock and boot, you will have taxable gain, but limi- ted to the amount of the boot--$2000.) @H\04 Cash (U.S. money) always has a tax ba- sis equal to its value, so no gain is possible, if all you transfer to the corporation is money. Similarly, if you only transfer other kinds of property that you would have a loss on if sold for current fair market value, there is no taxable gain to be recognized, even if you receive "boot" on the transaction. (However, you will not be allowed to recognize the loss, if any, on the exchange.) @H\05 "Unrealized appreciation" is simply the amount by which the value of an asset transferred to the corporation exceeds its tax basis. This "unrealized appre- ciation" remains "unrealized" (untaxed) in transfers to a controlled corpora- tion, unless there is "boot" received on the transaction, or liabilities are taken on by the corporation that exceed the tax basis of assets transferred, or liabilities are taken on by the corpor- ation that were created by the trans- feror for tax avoidance motives. @H\07 CAUTION: Even if you don't feel you took on a debt (that is being trans- ferred to the corporation) for a "tax avoidance" purpose, you should realize that the IRS will probably consider it as tax avoidance if you incurred the debt within a year or less before the transfer (or perhaps even longer in some instances). @END