Question

In: Accounting

You will be completing a tax memo on the following fact pattern. Basically, you'll be writing...

You will be completing a tax memo on the following fact pattern. Basically, you'll be writing a memo to a client advising him based on current tax law (prior to recent 2017 legislation).

Acquire, Inc. (client), an S Corp, is seeking to acquire Target, LLC (taxed as a C Corporation). Target has 3 shareholders with two of them holding 20% each and one holding 60% of its total shares (1,000 shares total between all 3 shareholders). Only one of Target's shareholders is a non US citizen.

The market value of each Target share is worth $1,000/per share. Each share has a cost basis of $25 per share. The fair market value of Target's assets are $800,000 with a cost basis of $200,000. One of the assets include commercial real estate with a fair market value of $200,000 with a liability (mortgage) of $220,000 that can be assumed by Acquire, Inc.

Acquire, Inc's shares are valued at $500/per share with a cost basis of $50 per share. The total shares outstanding is 1,000 all solely own by sole shareholder (Mr. Client-Shareholder). Acquire's total corporate assets are valued at $400,000 with a cost basis of $200,000.

Client (Acquire, Inc.) wants to know whether it's possible to acquire Target, Inc. without any taxable consequences to the company or to Mr. Sole Shareholder-Client? Discuss. The options to acquire the company may be done through either purchasing the assets or the shares. Please be sure to cite any statute or support for your reasoning.

Expert Solution

LLC (taxed as a C Corporation)

Suppose three shareholders are A,B and C

no. of Shares = 1000

A 's Share

20% of 1000 = 20/100 *1000 = 200

B 's Share

20% of 1000 = 1000 *20/100 = 200

C 's Share

60% of 1000 = 1000 * 60/100 = 600

market value of shares is $1000/share

market price of 1000 shares = 1000 *1000 = $1000000

A 's investment = 200 *1000 = $200000

B 's investment = 200 *1000 = $200000

C's investment = 600 *1000 = $600000

cost basis 25/share

Total cost = 1000 *25 = 25000

Shares value after deducting cost = 1000000 - 25000 = $975000

Target company's Assets = $800000

Cost basis = $200000

value of assets = $800000 - $200000 = $600000

Commercial real state assets = 200000 (with 220000 liabilities) = $22000 liabilities on real state assets

Total wealth =$975000 + $600000 - $20000 = $1555000

S. Corporation Acquire LLC

Shares = 500 * 1000 (no. of share 1000 @ rate 500/share)

Paid for shares = 500 *1000 = 500000

cost basis = 50/share

for 1000 shares = 1000 * 50 = $50000

capital gains on shares = $500000 - $50000 = $450000

Assets valued at $400000

Cost basis = $200000

Capital gains on assets = $400000 - $200000 = $200000

Purchase price for acquisition = $500000 +$200000 = $700000

Total Capital gains of S Corporation acquiring LLC = Capitals gains on shares + capital gains on assets = $450000 + $200000 =$650000

Capital gain tax on $650000 is

Tax Type	Marginal Tax Rate	Effective Tax Rate	Tax Amount
Federal	25.00%	25.00%	650000
State	.00%	0.00%	$0
Local	0.00%	0.00%	$0
Total Capital Gains Taxes = $650000 *25/100 =$162500			$

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