Question

In: Accounting

Ron and Hermione formed Wizard Corporation on January 2. Ron contributed cash of $220,000 in return...

Ron and Hermione formed Wizard Corporation on January 2. Ron contributed cash of $220,000 in return for 50 percent of the corporation’s stock. Hermione contributed a building and land with the following fair market values and adjusted bases in return for 50 percent of the corporation’s stock:

FMV Tax-Adjusted Basis
Building $ 136,000 $ 34,000
Land 204,000 136,000
Total $ 340,000 $ 170,000


To equalize the exchange, Wizard Corporation paid Hermione $120,000 in addition to her stock

a. What amount of gain or loss does Ron realize on the formation of the corporation? What amount, if any, does he recognize?

b. What is Ron’s tax basis in the stock he receives in return for his contribution of property to the corporation?

c. What amount of gain or loss does Hermione realize on the formation of the corporation? What amount, if any, does she recognize?

d. What is Hermione’s tax basis in the stock she receives in return for her contribution of property to the corporation?

e. What adjusted basis does Wizard Corporation take in the land and building received from Hermione?

f.Assume Hermione’s adjusted basis in the land was $220,000.What amount of gain or loss does Hermione realize on the formation of the corporation? What amount, if any, does she recognize?

Solutions

Expert Solution

a. What amount of gain or loss does Ron realize on the formation of the corporation? What amount, if any, does he recognize?

Answer:

Gain or loss realized

0

Gain or loss recognized

0

Explanation

Ron recognized 0 .It is because that Ron contributed only cash for the formation. So, Ron does not realize gain on this transfer.

b. What is Ron’s tax basis in the stock he receives in return for his contribution of property to the corporation?

Answer:

Tax basis

         220,000

Explanation

$220,000 which is equal to the cash transferred to the corporation, is Ron’s tax basis in the stock he receives in return for his contribution of property to the corporation

c. What amount of gain or loss does Hermione realize on the formation of the corporation? What amount, if any, does she recognize?

Answer:

Gain or loss realized

170,000

Gain or loss recognized

120000

Explanation

Recognizes gain the lesser of gain realized or the fair market value of the boot received

FMV of stock received

         220,000

Add: Cash Received

120,000

Amount received

340,000

Less: Adjusted basis of property transferred

         170,000

Gain realized

         170,000

The $120,000 of boot is allocated as follows:

Building: $136,000 / $340,000× $120,000 = $48,000

Land: $204,000 / $340,000× $120,000 = $72,000

Hermione then computes the gain recognized by computing the amount of gain or loss on each asset transferred in the exchange and then recognizing the lesser of the gain realized or the amount of boot allocated to each asset as follows:

Building

Land

Fair market value of stock received

88,000

132,000

+ Cash received

48,000

72,000

Amount realized

136,000

204,000

– Adjusted basis of assets transferred

34,000

136,000

Gain realized

102,000

68,000

Hermione recognizes gain of $120,000, equal to the lesser of gain realized or boot received on each of the assets computed as follows: A $48,000 gain is recognized on the building and a gain of $72,000 is recognized on the land.

d. What is Hermione’s tax basis in the stock she receives in return for her contribution of property to the corporation?

Answer:

Tax basis

170,000

Explanation

Tax basis in the stock = adjusted tax basis of building and land + gain recognized – additionalboot received

Adjusted basis of property contributed

170,000

Add: Gain recognized on the exchange

120,000

Less: Cash (boot) received

-120,000

Tax basis of stock received

170,000

e. What adjusted basis does Wizard Corporation take in the land and building received from Hermione?

Answer:

Land

Building

Adjusted basis

                 208,000

           82,000

Explanation

Land : 136,000 + 20,000 + $204,000 / $340,000× $120,000 % = 208,000

Building: 34,000 + 136,000 / $340,000× $120,000% = 82,000

f.Assume Hermione’s adjusted basis in the land was $220,000.What amount of gain or loss does Hermione realize on the formation of the corporation? What amount, if any, does she recognize?

Answer:

Gain or loss realized

86,000

Gain or loss recognized

48,000

Explanation

Hermione computes the gain recognized by computing the amount of gain or loss on each asset transferred in the exchange and then recognizing the lesser of the gain realized or the amount of boot allocated to each asset.

A $48,000 gain is recognized on the building and no gain is recognized on the land because a loss was realized

The calculation is below:

Buildingg

Land

Fair market value of stock received

88,000

132,000

Add: Cash received

48,000

72,000

Amount realized

136,000

204,000

Less: Adjusted basis of assets transferred

34,000

220,000

Gain realized

102,000

-16,000


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