CHAPTER 20 CORPORATIONS: DISTRIBUTIONS IN COMPLETE LIQUIDATION AND AN OVERVIEW OF REORGANIZATIONS

TRUE/FALSE 1. A liquidation can occur for tax purposes even though the corporation has retained some assets to pay remaining debts and preserve legal status. REF: p. 20-2

ANS: T 2.

One difference between the tax treatment accorded nonliquidating and liquidating distributions is with respect to the basis of property received in the distributions. In a nonliquidating distribution (e.g., qualifying stock redemption), the shareholder takes a basis in the property equal to the corporations basis in the property, while the basis of property acquired in a liquidation is its fair market value on the date of the distribution.

ANS: F The basis of property acquired in both nonliquidating and liquidating distributions is its fair market value on the date of the distribution. PTS: 1 REF: p. 20-4 3. As a general rule, a liquidating corporation recognizes gains and losses on the distribution of property in complete liquidation.

ANS: T Gain and loss recognition is the general rule for the liquidating corporation. PTS: 1 REF: p. 20-4 4. For purposes of the related-party loss limitation in the context of a liquidating distribution, a corporation and a shareholder are considered related if the shareholder owns (directly or indirectly) more than 50% in value of the corporations outstanding stock. REF: p. 20-5

ANS: T 5.

In a corporate liquidation, the built-in loss limitation can apply to sales of property in addition to liquidating distributions of property. REF: p. 20-7

ANS: T

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In a complete liquidation (not a parent-subsidiary liquidation), a shareholder typically recognizes dividend income equal to his or her share (i.e., stock ownership percentage) of the liquidating corporations E & P.

ANS: F Capital gain or loss is the typical result to a shareholder in a complete liquidation, based on the difference between the fair market value of the assets received in the distribution and the basis of the stock surrendered. The liquidating corporations E & P is irrelevant for purposes of determining the tax consequences to the shareholder. PTS: 1 REF: p. 20-9 7. A shareholder may defer gain, to the point of collection, on the receipt of installment notes obtained in a liquidating distribution. REF: p. 20-9 | Example 14

ANS: T 8.

Section 332 cannot apply to a parent-subsidiary liquidation if the subsidiary corporation is insolvent on the date of the liquidation. REF: p. 20-10 | Footnote 11

ANS: T 9.

Gains but not losses are recognized by a subsidiary corporation on liquidating distributions to a minority shareholder in a 332 liquidation. REF: p. 20-10

ANS: T

10. Brown Corporation purchased 90% of the stock of Green Corporation five years ago for $800,000. In the current year, Brown Corporation liquidates Green Corporation and acquires assets with a basis to Green Corporation of $600,000 (fair market value of $900,000). Brown Corporation will have a basis in the assets of $800,000, the same as its basis in the Green stock. ANS: F Brown will have a basis in the assets equal to Green Corporations basis, or $600,000. PTS: 1 REF: p. 20-11 11. A subsidiary is liquidated pursuant to 332. The parent has held 100% of the stock in the subsidiary for the past ten years. The subsidiary has a business credit carryover of $30,000 at the time of liquidation. The parent does not acquire the business credit carryover. ANS: F Under 381, a parent acquires a subsidiarys tax attributes, including the subsidiarys business credit carryover. PTS: 1 REF: p. 20-12 12. For purposes of the 338 election, a corporation must acquire, in a taxable transaction, at least 80% of the stock (voting power and value) of another corporation within an 12-month period. ANS: T REF: p. 20-12

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13. Gains and losses are recognized to a subsidiary corporation if the parent corporation makes the 338 election. ANS: T REF: p. 20-13 | Concept Summary 20-1

14. If a parent corporation makes a 338 election, the subsidiary is treated as a new corporation as of the day following the qualified stock purchase date. ANS: T REF: p. 20-13

15. If a parent corporation makes a 338 election, the subsidiary corporation must be liquidated. ANS: F The subsidiary corporation may, but need not, be liquidated as a result of the 338 election. If the subsidiary is liquidated, the parent obtains the subsidiarys assets with the stepped-up (or -down) basis. PTS: 1 REF: p. 20-13 | Concept Summary 20-1 16. United States tax policy tries to encourage business development. ANS: T REF: p. 20-14

17. Currently, merger and acquisition activity is in a declining mode. ANS: F Currently, U.S. merger and acquisition activity is in an increasing mode. PTS: 1 REF: p. 20-14 18. The auto parts industry has seen several major bankruptcies in the past few years. ANS: T REF: p. 20-15

19. Noncorporate shareholders would prefer to have a gain on a corporate reorganization treated as a capital gain rather than as a dividend, because of the lower tax rates applied to capital gains. ANS: F Dividends and capital gains are taxed at the same rates. PTS: 1 REF: p. 20-15 20. For a corporate restructuring to qualify as a tax-free reorganization, the transaction must comply with the step transaction doctrine. ANS: F The step transaction doctrine should not apply. PTS: 1 REF: p. 20-15 21. The tax treatment of reorganizations almost parallels the treatment given to related party exchanges. ANS: F The rules for tax-free reorganizations and like-kind exchanges are almost parallel. PTS: 1 REF: p. 20-15

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22. While Congress originally wanted even minor changes in corporate structure to be taxable, the courts were determined that businesses should be able to make capital adjustments without being subject to taxation. ANS: F It is the courts that originally considered even minor changes in a corporations structure as taxable events and Congress determined that businesses should be allowed to make capital changes without being taxed. PTS: 1 REF: p. 20-15 23. A corporate reorganization in the form of an exchange of stock does not qualify as a like-kind exchange. ANS: T While the results are treated similarly to a like-kind exchange, the like-kind exchange provisions do not cover exchanges of stock. PTS: 1 REF: p. 20-16 24. The amount of recognized gain cannot exceed the amount of realized gain. ANS: T See column 2 of Concept Summary 20-2. PTS: 1 REF: Concept Summary 20-2 25. Shareholders who receive cash distributions as a part of a corporate reorganization treat the amount received as a dividend and/or capital gain from the sale of their stock. ANS: T The gain recognized due to a cash distribution is considered a dividend to the extent of the shareholders proportionate share of corporate E & P. The remaining gain is generally capital. If requirements of 302(b) are met, the shareholder may receive sale or exchange treatment resulting in capital gain. PTS: 1 REF: p. 20-18 26. Shareholders recognize gains and losses if they receive assets other than stock (boot). ANS: F Gains may be recognized but never losses. PTS: 1 REF: p. 20-18 27. Determining whether a shareholders gain on a corporate reorganization can qualify for stock redemption treatment is based on the reduction in the percentage of the stock held in the target corporation when compared to the percentage held in the acquiring corporation. ANS: F The percentage reduction compares the actual shares received in the acquiring corporation to what would have been received if solely acquiring stock had been received. PTS: 1 REF: p. 20-18

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28. Debt security holders receive similar treatment to shareholders in a corporate reorganization, as long as the face value of the debt relinquished is equal to the debt received. ANS: T REF: p. 20-19

29. The basis in the acquiring stock received by the target shareholders is the vehicle for ensuring that any postponed gain is recognized when the stock is sold at a later date. ANS: T REF: p. 20-19 | Concept Summary 20-2

MULTIPLE CHOICE 1. In comparing a qualifying stock redemption with a complete liquidation, which of the following statements is incorrect? a. Liquidations and qualifying stock redemptions parallel each other in terms of the effect that E & P has on the nature of the gain or loss recognized by the shareholder. b. A corporation will recognize gain upon the distribution of appreciated property for both a qualifying stock redemption and a complete liquidation, but a corporation will recognize loss upon a distribution of depreciated property only for a complete liquidation. c. Both a qualifying stock redemption and a distribution pursuant to a complete liquidation produce sale or exchange treatment to the shareholder. d. The basis of property acquired is its fair market value on the date of distribution for both a qualifying stock redemption and a liquidation. e. Section 267 disallows recognition of losses between related parties in a complete liquidation but not in a qualifying stock redemption.

ANS: E Section 267 disallows losses in a nonliquidating distribution, including a qualified stock redemption, but not in a complete liquidation. PTS: 1 REF: p. 20-3 | p. 20-4 2. Pursuant to a complete liquidation, Woodpecker Corporation distributes the following assets to its unrelated shareholders: land held as an investment (basis of $200,000, fair market value of $310,000), inventory (basis of $160,000, fair market value of $190,000), and marketable securities (basis of $100,000, fair market value of $60,000). What are the tax results to Woodpecker Corporation as a result of the liquidation? (Woodpecker Corporation has held the land and securities for six years.) a. Woodpecker Corporation would recognize no gain or loss on the liquidation. b. Woodpecker Corporation would recognize a gain of $140,000 and a loss of $0. c. Woodpecker Corporation would recognize a gain of $110,000 and a loss of $0. d. Woodpecker Corporation would recognize a gain of $140,000 and a loss of $40,000. e. None of the above.

ANS: D A corporation generally recognizes both gains and losses on liquidating distributions. PTS: 1 REF: p. 20-4

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Pursuant to a complete liquidation, Oriole Corporation distributes to its shareholders land with a basis of $400,000 and a fair market value of $550,000. The land is subject to a liability of $620,000. What is Orioles recognized gain or loss on the distribution? a. $70,000 loss. b. $70,000 gain. c. $150,000 gain. d. $220,000 gain. e. None of the above.

ANS: D Section 336 provides that a liquidating corporation recognizes gain or loss on the distribution of property in complete liquidation. When property distributed in a complete liquidation is subject to a liability of the liquidating corporation, the fair market value of the property cannot be less than the amount of the liability. Thus, Oriole recognizes a gain of $220,000 [$620,000 (liability) $400,000 (land basis)]. PTS: 1 REF: Example 3 4. Three sisters, Carol, Lori, and Nina, own the stock in White Corporation equally. The three sisters owned, as tenants in common, a tract of land (basis of $350,000, fair market value of $460,000) that they transferred to White Corporation four years ago as a contribution to capital. In the current year, White Corporation adopts a plan of liquidation and distributes the land, now worth $300,000, equally to Carol, Lori, and Nina as tenants in common. What amount of loss may White Corporation recognize on the distribution of the land? a. $0. b. $50,000. c. $110,000. d. $160,000. e. None of the above.

ANS: A Each sister owns directly and indirectly 100% of the White Corporation stock under 267. Since White acquired the land within the five-year period preceding the distribution as a contribution to capital, the land is disqualified property. Thus, the related-party loss limitation applies to disallow the entire loss. PTS: 1 REF: Example 7 | Footnote 4 5. The stock in Lark Corporation is owned equally by Olaf and his grandson Pete. In a liquidation of the corporation in the current year, Lark Corporation distributes land that it purchased in 2005 for $200,000 to Olaf. The property has a fair market value on the date of distribution of $150,000. One year later, Olaf sells the land for $170,000. What loss will Lark Corporation recognize with respect to the land? a. $0. b. $20,000. c. $30,000. d. $50,000. e. None of the above.

ANS: A Olaf is deemed to own all of the stock of Lark Corporation under the 267 attribution rules and the distribution of the land is not pro rata. As a result, the related-party loss limitation disallows the entire loss. PTS: 1 REF: p. 20-4 | p. 20-5 | Example 5

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Magenta Corporation acquired land in a 351 exchange in 2006. The land had a basis of $450,000 and a fair market value of $520,000 on the date of the transfer. Magenta Corporation has two equal shareholders, Mark and Megan, who are father and daughter. Magenta Corporation adopts a plan of liquidation in the current year. On this date the land has decreased in value to $390,000. Magenta Corporation sells the land for $390,000 and distributes the proceeds pro rata to Mark and Megan. What amount of loss may Magenta Corporation recognize on the sale of the land? a. $0. b. $60,000. c. $70,000. d. $130,000. e. None of the above.

ANS: B The related-party loss limitation does not apply to sales. The property does not have a built-in loss on the date of the transfer to the corporation; thus, the built-in loss limitation does not apply. The basis of the property to Magenta Corporation is $450,000 and, upon a sale of the property for $390,000, Magenta Corporation would recognize the $60,000 loss. PTS: 1 REF: p. 20-5 to 20-7 7. Formed in 1998, Purple Corporation has two equal shareholders, Joshua and Ellie, who are father and daughter. In 2006, the two shareholders transfer properties to Purple in a 351 exchange. Joshua transferred undeveloped land (basis of $150,000, fair market value of $100,000) and securities (basis of $25,000, fair market value of $100,000), while Ellie transferred equipment (basis of $120,000, fair market value of $200,000). Purple Corporation adopts a plan of liquidation in 2007, sells all of its assets, and distributes the proceeds pro rata to Joshua and Ellie. The only loss realized upon disposition of the properties was with respect to the undeveloped land that had decreased in value to $50,000 and was sold for this amount. Purple never used the land for any business purpose during the time it was owned by the corporation. What amount of loss can Purple Corporation recognize on the sale of the undeveloped land? a. $0. b. $25,000. c. $50,000. d. $100,000. e. None of the above.

ANS: C The undeveloped land had a built-in loss of $50,000 [$100,000 (fair market value) $150,000 (basis)] on the date it was acquired in the 351 exchange. Since the land was acquired within two years of the plan of liquidation, a tax avoidance purpose is assumed. Since there was no business purpose for transferring the property to Purple, the built-in loss limitation disallows $50,000 of the loss. The related-party loss limitation does not apply to sales; therefore, the remaining $50,000 loss realized during the period Purple held the property is recognized. (Note that the 362(e)(2) basis adjustment rules for loss properties acquired in carryover basis transactions does not apply to the undeveloped land, as there was no net builtin loss on the two properties transferred by Joshua. Section 362(e)(2) is discussed in Chapter 4.) PTS: 1 REF: Example 11

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On April 12, 2006, Crow Corporation acquired land in a transaction that qualified under 351. The land had a basis of $200,000 to the contributing shareholder and a fair market value of $170,000. Assume that the shareholder also transferred equipment (basis of $60,000, fair market value of $90,000) in the same 351 exchange. Crow Corporation adopted a plan of liquidation on October 3, 2007. On December 4, 2007, Crow Corporation distributes the land to Ali, a shareholder who owns 20% of the stock in Crow Corporation. Value of the land has declined to $130,000 on the date of the distribution to Ali. Crow Corporation acquired the land to use as security for a loan it had hoped to obtain from a local bank. In negotiating with the bank for a loan, the bank required the additional capital investment as a condition of its making a loan to Crow Corporation. How much loss can Crow Corporation recognize on the distribution of the land? a. $0. b. $30,000. c. $70,000. d. $130,000. e. None of the above.

ANS: C Crow Corporation had a business reason for acquiring the land. Further, the land was not distributed to a related party. Thus, the loss limitation provisions do not apply and the entire loss of $70,000 [$130,000 (fair market value) $200,000 (land basis)] is allowed. (Note that the 362(e)(2) basis adjustment rules for loss properties acquired in carryover basis transactions does not apply to the land, as there was no net built-in loss on the two properties transferred by shareholder. Section 362(e)(2) is discussed in Chapter 4.) PTS: 1 REF: Example 12 9. Warbler Corporation distributes all of its property in a complete liquidation. Kena, a shareholder, receives $7,000 cash and land having a fair market value of $120,000. Warbler had purchased the land three years ago for $105,000. Kena has a $22,000 basis in her Warbler stock. What is Kenas basis in the land received in the liquidation of Warbler? a. $0. b. $105,000. c. $120,000. d. $127,000. e. None of the above.

ANS: C The basis of property received in a complete liquidation is the propertys fair market value on the date of distribution. PTS: 1 REF: p. 20-9

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10. After a plan of complete liquidation has been adopted, Condor Corporation sells its only asset, land (basis of $300,000), to Eduardo (an unrelated party) for $700,000. Under the terms of the sale, Condor Corporation receives cash of $200,000 and Eduardos notes for the balance of $500,000. The notes are payable over the next five years ($100,000 per year) and carry an adequate interest rate. Immediately after the sale, Condor Corporation distributes the cash and notes to Maria, the sole shareholder of Condor Corporation. Maria has a basis of $105,000 in the Condor stock. The installment notes have a value equal to their face amount. If Maria wishes to defer as much gain as possible on the transaction, which of the following is correct? a. Condor Corporation recognizes no gain or loss on the distribution of the installment notes. b. Maria recognizes a gain of $95,000 in the year of liquidation. c. Maria recognizes a gain of $170,000 in the year of liquidation. d. Maria recognizes a gain of $595,000 in the year of liquidation. e. None of the above. ANS: C Maria may defer gain on the receipt of the notes to the point of collection. Maria will allocate her basis in the Condor stock between the cash and the installment notes. Using the relative fair market value approach, the stock basis is allocated $30,000 to the cash [$200,000 (amount of cash) $700,000 (total distribution) $105,000 (stock basis)], and $75,000 to the notes [$500,000 (FMV of notes) $700,000 (total distribution) $105,000 (stock basis)]. Maria must recognize $170,000 [$200,000 (cash received) $30,000 (basis allocated to the cash)] in the year of liquidation. Maria will report 85% of each note collected as capital gain [$425,000 (gross profit) $500,000 (contract price)]. The interest element will be accounted for separately. Condor Corporation will recognize a gain on the distribution equal to the excess of the installment notes fair market value and the basis Condor had in the notes. PTS: 1 REF: Example 14 11. Skylark Corporation owned 100% of the outstanding stock of Quail Corporation, having purchased the stock 5 years ago for $310,000. Pursuant to a plan of liquidation adopted by Quail Corporation on March 1, 2007, Quail distributed all its property on December 1, 2007, to its shareholder. Quail Corporation had never been insolvent and had E & P of $420,000 on the date of liquidation. Pursuant to the liquidation, Quail distributes property worth $390,000 (basis $325,000) to Skylark Corporation. How much gain must the parties recognize in 2007 on the transfer of this property to Skylark Corporation? a. $0 as to both Skylark Corporation and Quail Corporation. b. $80,000 as to Skylark Corporation. c. $65,000 as to Quail Corporation. d. $15,000 as to Skylark Corporation. e. None of the above. ANS: A A combination of 332 and 337 protects both Skylark Corporation and Quail Corporation from the recognition of any gain. PTS: 1 REF: p. 20-10 | p. 20-11

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12. The stock of Cardinal Corporation is held as follows: 85% by Blue Jay Corporation and 15% by Samuel. Cardinal Corporation is liquidated on October 18, 2007, pursuant to a plan adopted on January 9, 2007. Pursuant to the liquidation, Cardinal Corporation distributed Asset A (basis of $650,000, fair market value of $850,000) to Blue Jay, and Asset B (basis of $100,000, fair market value $150,000) to Samuel. How much gain, if any, will Cardinal Corporation recognize on the liquidating distributions? a. $0. b. $50,000. c. $200,000. d. $250,000. e. None of the above. ANS: B The liquidating distribution of Asset A to Blue Jay is pursuant to a 332 parent-subsidiary liquidation; thus, Cardinal does not recognize any gain on the distribution. In distributions from a subsidiary corporation to a minority shareholder, pursuant to a 332 parent-subsidiary liquidation, gains (but not losses) are recognized. Therefore, Cardinal Corporation recognizes a gain of $50,000 [$150,000 (fair market value) $100,000 (basis)] on the distribution of Asset B to Samuel. PTS: 1 REF: Example 15 13. Penguin Corporation purchased bonds (basis of $95,000) of its 100% owned subsidiary, Finch Corporation, at a discount. Pursuant to a 332 liquidation and in satisfaction of the indebtedness, Finch distributes land worth $100,000 (basis of $85,000) to Penguin. Which of the following statements is correct with respect to the distribution of land? a. Neither Finch nor Penguin recognize gain. b. Finch recognizes a gain of $15,000 and Penguin recognizes no gain. c. Finch recognizes no gain and Penguin recognizes a gain of $5,000. d. Finch recognizes a gain of $15,000 and Penguin recognizes a gain of $5,000. e. None of the above. ANS: C Penguin recognizes a gain of $5,000 [$100,000 (value of land) $95,000 (basis in bonds)]. Finch recognizes no gain (or loss) on distributions pursuant to a 332 liquidation, even if property is transferred in satisfaction of indebtedness to Penguin. PTS: 1 REF: Example 16 | Example 17 14. Indigo, the parent corporation, has a basis of $550,000 in the stock of Brown Corporation, a subsidiary in which it owns 90% of all classes of stock. Indigo purchased the stock in Brown Corporation 10 years ago. In the current year, Indigo Corporation liquidates Brown Corporation and acquires assets worth $800,000 and with a tax basis to Brown Corporation of $625,000. What basis will Indigo Corporation have in the assets acquired from Brown Corporation? a. $800,000. b. $625,000. c. $550,000. d. $0. e. None of the above. ANS: B Property received by a parent corporation in a complete liquidation of its subsidiary under 332 has the same basis it had in the hands of the subsidiary, or $625,000. The parents basis in the stock of the liquidated subsidiary disappears. PTS: 1 REF: Example 18

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15. Three years ago, Loon Corporation purchased 100% of the stock of Pelican Corporation for $720,000. Pelican Corporation has a basis of $500,000 in its assets, but the assets currently have a fair market value of $800,000. If Loon liquidates Pelican, what basis will Loon have in the assets it acquires from Pelican Corporation? a. $0. b. $500,000. c. $720,000. d. $800,000. e. None of the above. ANS: B Property received by a parent corporation in a complete liquidation of its subsidiary under 332 has the same basis the property had in the hands of the subsidiary, or $500,000. The parents basis in the stock of the liquidated subsidiary disappears. PTS: 1 REF: Example 19 16. During the current year, Goldfinch Corporation purchased 100% of the stock of Dove Corporation and made a qualified election under 338. Which of the following statements is incorrect with respect to the 338 election? a. A 338 election can result in a stepped-up or stepped-down basis for the subsidiarys assets. b. Dove is treated as a new corporation as of the day following the qualified stock purchase date. c. Dove can recognize gain but not loss as a result of the 338 election. d. Dove may, but need not, be liquidated. e. None of the above. ANS: C The deemed sale that results from a 338 election can result in recognized gain or loss for the subsidiary (Dove). A 338 election can result in a stepped-down basis in the subsidiarys assets. Dove is treated as a new corporation as of the day following the qualified stock purchase date. Dove need not be liquidated as a result of the 338 election. PTS: 1 REF: p. 20-13 | Concept Summary 20-1 17. Which of the following statements is correct with respect to the 338 election? a. The subsidiary corporation must be liquidated pursuant to the 338 election. b. Subsidiary stock acquired by the parent corporation in a tax-free reorganization will count towards the 80% qualified stock purchase requirement. c. The parent corporation makes the 338 election. d. A qualified stock purchase occurs when a corporation acquires, in a taxable transaction, at least 80% of the stock (voting power and value) of another corporation within an 18month period. e. None of the above. ANS: C The parent corporation makes the 338 election. The subsidiary may, but need not, be liquidated. To count towards the 80% qualified stock purchase requirement, the stock must be acquired in a taxable transaction and within a 12-month period. PTS: 1 REF: p. 20-13 | Concept Summary 20-1

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18. Mergers and acquisitions (M & A) are popular methods of increasing the economic vitality of businesses. Which of the following is true regarding the current trends in M & A? a. Bankruptcy filings increased in 2005 and 2006 to an all-time high of $1 trillion. b. The current trend is toward friendly mergers and acquisitions. c. Mergers and acquisitions have increased in recent years due to a downturn in the economy and financial statement misstatements. d. There has been an increase in mergers and acquisitions in recent years due to simplifications in the Code that make it easier to qualify for tax-free treatment. e. All of the above are true. ANS: B Answer a. is true of M & A not bankruptcies. Answer c. is true of bankruptcies not M & A. The tax law has not simplified corporate reorganization rules in recent years. PTS: 1 REF: p. 20-15 19. All of the following statements are true about gains recognized in a corporate reorganization except: a. Taxable amounts in a reorganization are classified as a dividend or capital gain. b. Corporate shareholders would prefer taxable amounts in a reorganization be classified as a capital gain. c. Individuals are taxed at the same rate for dividends and capital gains. d. Capital gains and dividend income can be totally eliminated in a corporate reorganization with careful tax planning. e. All of the above statements are true. ANS: B Corporations prefer dividend treatment because of the dividends received deduction. PTS: 1 REF: p. 20-14 | p. 20-15 20. Which of the following is not a reorganization designated under 368(a)(1)? a. Transfers due to a bankruptcy or receivership proceeding. b. Recapitalization. c. Transferring assets to a controlled corporation in exchange for stock that is given to the distributing corporations shareholders. d. Acquisition of target stock by exchanging voting stock of the acquiring corporation. e. All of the above are reorganizations listed in 368(a)(1). ANS: E Answer a. is a Type G, b. is a Type E, c. is a divisive Type D, d. is a Type B. PTS: 1 REF: p. 20-16 | 20-17

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21. Which of the following is not a possible outcome for a shareholder who is a party to a corporate reorganization falling under 368? a. If boot is received, dividend treatment to the extent of the shareholders proportionate share of corporate E & P. b. If boot is received, amounts in excess of a shareholders proportionate share of corporate E & P are capital gains. c. Redemption treatment and therefore capital gain or loss if the requirements of 302(b) are met. d. No gain or loss is recognized when the shareholder does not receive boot in the transaction. e. All of the above are possible outcomes. ANS: C Losses cannot be recognized by shareholders that are party to a 368 reorganization. Therefore, shareholders cannot recognize a loss if the transaction qualifies as a redemption. PTS: 1 REF: p. 20-18

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22. Silver Corporation redeems all of Alluvias 3,000 shares and distributes to her 1,000 shares of Gold Corporation stock plus $20,000 cash. Alluvias basis in her 30% interest in Silver is $80,000 and the stocks market value is $120,000. At the time Silver is acquired by Gold, the accumulated earnings and profits of Silver are $100,000 and Golds are $50,000. How does Alluvia treat this transaction for tax purposes? a. No gain is recognized by Alluvia in this reorganization. b. Alluvia reports a $20,000 recognized dividend. c. Alluvia reports a $20,000 recognized capital gain. d. Alluvia reports a $15,000 recognized dividend and a $5,000 capital gain. e. None of the above. ANS: B Alluvia has a realized gain of $40,000 ($120,000 $80,000) and a recognized dividend of $20,000. Her proportionate share of Silver Corporations accumulated earnings and profits is in excess of $20,000 ($100,000 30% = $30,000). PTS: 1 REF: p. 20-18 | p. 20-19 | Example 23 23. Carlos purchased 20% of Target Corporations stock five years ago for $50,000. In a transaction qualifying as a Type A reorganization, Carlos received $40,000 cash and 6% of Acquiring Corporations stock (valued at $60,000) in exchange for his Target stock. Target had $300,000 accumulated earnings and profits prior to the reorganization. How does Carlos treat the exchange for tax purposes? a. As a sale of stock and recognizes a $50,000 long-term capital gain. b. As a sale of stock and recognizes a $10,000 long-term capital loss. c. As a dividend of $40,000. d. As a stock redemption and recognizes a $40,000 long-term capital gain. e. Not enough information is available to determine proper treatment. ANS: D If Carlos had received only stock, he would have received 10% of Acquiring. Since Carlos owns 6% of Acquiring, which is less than 80% of the stock he would have owned (6% 10% is less than 80%), and he owns less than 50% of Acquiring, he meets the 302(b)(2) qualifications for redemption treatment. PTS: 1 REF: p. 20-18

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24. Yellow Corporation and Green Corporation enter into a Type A reorganization. Raul currently holds a 15-year $100,000 Green bond paying 6% interest. In exchange for his Green bond, Raul receives a 5-year $125,000 Yellow bond paying 5% interest. Raul is happy with the Yellow bond because, even though it pays a lower interest rate, the yield provides slightly more interest than the Green bond, and both bonds mature on the same date. How does Raul treat this transaction on his tax return? a. Raul recognizes gain of $25,000 on the exchange ($125,000 $100,000). b. Raul recognizes a $5,000 gain ($100,000 6% = $120,000 5%; $125,000 $120,000 = $5,000). c. Raul recognizes $1,250 gain ($5,000 5% 5 years remaining on bond). d. Raul has no gain because he exchanges a security for a security. e. None of the above. ANS: A Raul recognizes gain to the extent that the principal amounts of the bonds received are in excess of the bonds given up, or $25,000. PTS: 1 REF: p. 20-19 | Example 25 25. Jupiter Corporation acquires all of Titian Corporations stock in exchange for its voting stock. Iris received 1,000 shares of Jupiter valued at $50,000 for her 8,000 shares of Titian that cost Iris $100,000 five years ago. In addition to the Jupiter stock, she receives a $30,000 bond. How does Iris treat this transaction for tax purposes? a. Iris recognizes a loss of $50,000. Her Jupiter stock basis is $50,000. b. Iris recognizes a loss of $20,000. Her Jupiter stock basis is $80,000. c. Iris recognizes a $20,000 loss and a $25,000 gain. Her Jupiter stock basis is $105,000. d. Iris realizes a $20,000 loss that is not recognized. Her Jupiter stock basis is $120,000. e. None of the above. ANS: E Iris has a realized loss of $20,000; however, losses are not recognized in reorganizations. Her basis in her Jupiter stock will be $70,000 ($100,000 $30,000 bond received). PTS: 1 REF: p. 20-18 to p. 20-20 | Example 27 | Concept Summary 20-2 | Concept Summary 20-3 ESSAY 1. Discuss the requirements for a 332 parent-subsidiary liquidation.

ANS: Section 332 will apply to a parent-subsidiary liquidation if the following three requirements are met. First, the parent corporation must own at least 80% of the voting stock of the subsidiary and at least 80% of the value of the subsidiarys stock. This 80% threshold must be met as of the date the plan of liquidation is adopted and until such time all of the subsidiarys assets are distributed. Second, the subsidiary must distribute all of its assets in complete cancellation of its stock within the taxable year or within three years from the end of the tax year in which the first distribution occurred. Third, the subsidiary must be solvent. If the subsidiary is insolvent, the parent corporation will have an ordinary loss deduction for its basis in the subsidiary stock. PTS: 1 REF: p. 20-10 | p. 20-11

Corporations: Complete Liquidation and Reorganizations

2. Describe the requirements for and tax consequences of a 338 election.

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ANS: In order to make an election under 338, a corporation must purchase at least 80% of the voting power and at least 80% of the value of the stock in another corporation within a 12-month period (qualified stock purchase). The parent corporation must make the irrevocable election by the fifteenth day of the ninth month beginning after the month in which the qualified stock purchase occurs. Upon a qualified 338 election, the subsidiary corporation is deemed to have sold all of its assets on the qualified stock purchase date for a value that is determined with reference to the parents basis in the subsidiary stock plus the liabilities of the subsidiary. The subsidiary is then deemed to be a new corporation that purchased those assets for a similarly computed amount on the day following the qualified stock purchase date. The subsidiary will recognize gain (or loss) as a result of the deemed sale, and it will obtain a stepped-up (or -down) basis as a result of the deemed repurchase. The subsidiary does not have to be liquidated, but if it is, the parent will acquire the subsidiarys assets with a carryover of the new stepped-up (or -down) basis. Since the subsidiary is treated as a new corporation as a result of the election, its tax attributes (e.g., E & P) start anew. Thus, if the subsidiary is liquidated pursuant to the 338 election, its tax attributes that would carry over to the parent would be nominal (or zero) in amount. PTS: 1 REF: p. 20-13 | Concept Summary 20-1 3. Compare the sale of a corporations assets with a sale of its stock in terms of problems to the seller.

ANS: A sale of a corporations assets presents more problems than a sale of its stock. When a corporations assets are sold, the sale proceeds generally are distributed to the shareholders in liquidation of the corporation. Both the corporation and the shareholders must treat their respective transactions as sales for tax purposes. The transfer of assets requires that title be changed and that creditors be notified. The sale of stock poses fewer tax problems. Only the shareholders report the transaction for tax purposes. Also, a sale of stock avoids problems that might arise in an asset sale when the purchaser does not want all of the corporations assets. PTS: 1 REF: p. 20-22

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The general rule for corporate reorganizations is that the corporations involved in a restructuring and their shareholders do not recognize gain or loss on the restructuring. However, there are situations when the corporations or shareholders may recognize gains. Explain when gain recognition can occur.

ANS: Corporations and shareholders may recognize gains on a restructuring in the following situations. PTS: 1 The acquiring corporation transfers property to the target corporation along with its stock and securities to the extent that the property has appreciated, gain will be recognized. The target corporation fails to distribute other property (boot) it receives from the acquiring corporation to its shareholders. The target corporation distributes its own appreciated property to its shareholders. Shareholders receiving cash or other boot recognize gain. The amount of gain is the lesser of the gain realized or the boot received. REF: p. 20-18 | p. 20-19