Section 351 Exchange

Definition

A Section 351 exchange allows for the transfer of property to a corporation by one or more individuals in exchange for stock, without recognizing any immediate gain or loss for tax purposes. This provision is significant as it encourages investment in new corporate ventures by deferring tax liability until a later event, such as the sale of the stock received in exchange. The key requirements include that the transferors must control the corporation immediately after the exchange and that the property transferred must not be cash or stock received from the corporation.

5 Must Know Facts For Your Next Test

1. Section 351 exchanges help foster economic growth by allowing businesses to raise capital without immediate tax burdens on transferors.
2. For a valid Section 351 exchange, at least one transferor must control the corporation immediately after the transfer.
3. If boot is received in a Section 351 exchange, it is taxable to the extent of gain realized, but only to the extent of the boot received.
4. Transferors can include individuals, partnerships, and corporations, but they must receive stock in exchange for property to qualify under Section 351.
5. Property exchanged can include tangible assets like equipment and intangible assets such as patents, but it cannot include services rendered.

Review Questions

• How does the concept of control impact a Section 351 exchange?
  • Control is a critical requirement for a Section 351 exchange; it ensures that transferors have a significant stake in the newly formed corporation. To qualify for tax deferral under this section, at least one transferor must own at least 80% of the voting power and value of the stock immediately after the exchange. This provision aims to create a strong alignment between the interests of the investors and the corporate entity they are establishing.
• What are the tax implications if boot is received during a Section 351 exchange?
  • If boot is received in a Section 351 exchange, it can lead to immediate tax consequences. The transferor must recognize gain to the extent of any boot received, up to the amount of gain realized from the transaction. However, losses are generally not recognized. This ensures that while the primary exchange remains tax-deferred, any cash or additional property serves as a taxable event.
• Evaluate how Section 351 exchanges promote investment and entrepreneurship within corporations and their broader economic implications.
  • Section 351 exchanges significantly promote investment and entrepreneurship by allowing individuals to contribute assets to a corporation without facing immediate tax liabilities. This encourages more people to invest in new ventures and support corporate formation by lowering upfront costs associated with taxation. The broader economic implication is that it stimulates business growth and innovation, leading to job creation and increased economic activity, ultimately benefiting both investors and the economy at large.

Related terms

Control: The term refers to owning at least 80% of the voting power and value of the stock of a corporation immediately after the exchange.

Boot: Cash or other property received in an exchange that is not part of the stock received, which may trigger tax consequences.

Like-Kind Exchange: A tax-deferred exchange of similar types of property, allowing for deferral of gain recognition when exchanging real estate properties.