Sergio and Chris Agree to Combine Their Sole Proprietorships and Form

question 41

Multiple Choice

Sergio and Chris agree to combine their sole proprietorships and form a corporation. Sergio will contribute cash of $20,000 and business property worth $120,000 (adjusted basis of $50,000) for a 25% interest. Chris will contribute cash of $200,000 and business property worth $220,000 (adjusted basis of $200,000) for a 75% interest. Which of the following statements concerning the tax treatment of Sergio and Chris's exchange of assets is/are correct?
I.Because neither owner owns more than 80% of the stock in the corporation, the transfers do not qualify for tax-free treatment.
II.Based on the wherewithal-to-pay concept, each owner is taxed on the cash they contributed to the corporation.
III.Sergio will recognize a $70,000 gain and Chris will recognize a $20,000 gain.
IV.No gain or loss is recognized on the exchange.
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• A)Only statement IV is correct.
• B)Statements I and III are correct.
• C)Only statement II is correct.
• D)Only statement III is correct.
• E)None of the statements are correct.

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Definitions:

Nephron

Microscopic kidney unit that regulates blood composition by glomerular filtration, tubular reabsorption, and tubular secretion.

Glomerulus

A network of capillaries located within the kidney that filters blood, initiating the process of urine formation.

Alveoli

Small air sacs in the lungs where the exchange of oxygen and carbon dioxide takes place, crucial for breathing and gas exchange.

Microvilli

Extensive tiny projections on the surface of some cells that increase the surface area for absorption or secretion.