Writing Project-Accounting 757
December 17th 2012
In the United States today there are millions of corporations in many different industries. All of them must abide by the current taxation rules and regulations that have been set by IRS and congress. The Internal Revenue Code, which was originally founded in 1939, set the foundation for the codification that we have in place today. The code arranged all Federal Tax provisions in a logical order and placed them in a separate part of the federal status. Over the years, congress has updated and amended the tax code in 1954, in 1986 Tax Reform Act, and is constantly updating the code due to its importance in assessing judicial and administrative decisions. The arrangement of the code is broken down starting with a Subtitle, broken down into chapter, subchapter, part, and then section (2).
It is extremely important for Corporations today to make sure they understand the tax code so they can be aware of the benefits and consequences that may arise in daily business transactions. Asset and property transactions are a large of certain corporations day-to-day operations. Normally property and asset transactions will produce tax consequences if a gain or loss is realized. A transfer of property to a corporation in exchange for equity creates the grounds for a taxable sale and the amount to be recognized but there are exceptions to the rule (4).
The code does provide exceptions to the rule and allows ways around recognizing a gain or loss upon the transfer of property to a corporation. Section 351(a) is one exception to the rule. The general rule states, “No gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock in such corporation and immediately after the exchange such person or persons are in control (as defined in section 368(c)) of the corporation”, according the internal revenue code (1). The idea and principal behind the rule is based on the transfer of property and isn’t a closed transaction because a transferor has not cashed in the position in the transferred property. Instead, the person continues to own the transferred property throughout ownership of the transferee corporation stock and there has just been a change in the form of ownership. Congress believes that tax rules should not hinder firms from making business decisions, hence why section 351 was written (10).
In order for section 351 to be used and applied there are 3 items that must be met for the transaction to be considered for the non- recognition treatment. The first requirement is that there must be a transfer of “property” to a corporation. It is very important that corporations understand the definition of property because in the past issues have arose. Plant, Property, Equipment, installment obligations, and unrealized receivables of cash basis are all considered as property. The main property exclusion in the code is that services are not considered as property (6)(11).
Another requirement is that the transferors must receive common or preferred stock that is not qualified preferred stock of the transferee corporation. Non-qualified preferred stock is not permitted because it has similarities to debt instruments. Stock warrants and stock rights are also excluded and would be treated as boot (7)(11). The third requirement that must be met in order for a corporation to use section 351 is that once the transfer is complete, the transferors must be in control of the transferee corporation within the meaning of section 368(c). Control means that the people involved must own a minimum of 80 percent of the total combined voting power and numbers of shares of stock. The two criteria for control both must be satisfied as per Rev. Ruling 59-259. Section 351 is a mandatory transaction if a transaction meets the provisions requirements as per Gus Russell, Inc. v. Commissioner, 36...
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