3 Things To Avoid When Incorporating Tax Free
Section 351 makes it possible for businesses to incorporate tax free, assuming they meet certain requirements. This is great news for business owners! Let’s say you want to form a new business as a corporation. Or, you might want to convert a proprietorship or partnership to a corporation. These can be done tax-free.
However, you’ll want to avoid the following situations first:
1. Stock for services.
If you receive stock for services, the entire value of the stock received for services is taxable income to you.
2. Receipt of “boot”.
If you receive cash from the corporation to ensure an equal exchange, you have received “boot.” This amount of cash received must be recognized as gain and is subject to taxation. For instance, if you contribute a piece of land that is worth $5000 more than the amount of stock you’re exchanging for in the corporation, you have to recognize $5000 of gain.
3. Debt relief exceeding basis.
Any liabilities the corporation assumes in the exchange that exceed the adjusted basis of the property you transferred are considered gain.
Qualifications for incorporating tax free.
It’s important to understand that the 3 situations above do not disqualify you from tax-free treatment under Section 351. However, you will likely pay some tax in those situations. To qualify for incorporating tax free, there are only two requirements:
1. Exchange property for stock
2. Be in control of the corporation immediately after the exchange
Things to remember.
|When incorporating tax free under Section 351, you have:
1. No gain or loss to recognize
2. A basis in the stock acquired equal to the basis of the property you transferred; and,
3. A holding period for the stock that includes the holding period of the property you transferred.
A partner that prevents errors!
Things in business are never “straight forward”. That’s why you need a tax professional to help you navigate the potential errors. Paragon Accounting & Tax Solutions specializes in small business in Milton, GA; Acworth, GA; Canton, GA; Woodstock, GA; Marietta, GA; Alpharetta, GA; and Kennesaw, GA. Your business success is important to us. Therefore, when you work with us, we will advise you of potential tax errors that could cost you serious money in an audit.