Mr. Donnarumma began to operate Verratti Plumbing, a residential plumbing services business, as a proprietorship, choosing a December 31 year-end. Until quite recently, he has been withdrawing virtually all of the income of the business for personal purposes. Since the debt of the business was fully secured, there was no good reason to incorporate. However, the business has become very profitable, and Mr. Donnarumma can see the benefit of deferring tax on income retained in the business. Therefore, he intends to incorporate the proprietorship, effective January 2, 2021. The corporate name will become Verratti Plumbing Inc.

Mr. Donnarumma wants to accomplish the incorporation without any immediate tax consequences. Liabilities of the proprietorship are to be assumed by the corporation, in return for assets transferred to the corporation by the subsection 85(1) election. New debt is to be issued (to the nearest $100) by the corporation to the maximum that will permit a full deferral of unrealized income on assets transferred. Mr. Donnarumma will receive 1,000 of the authorized common shares of the corporation.

Expected balance sheet amounts at December 31, 2020 are as follows:

Assets

Cash $ 27,000

Portfolio securities(shopify, amazon, apple), at cost (FMV: $50,000) 90,000

Accounts receivable (FMV: $190,000) $215,000

Less: reserve for doubtful debts (deducted for tax in 2020) 15,000 200,000

Inventory, at lower of cost or market (FMV: $62,000) 54,000

Prepaid Utilities 4,000

Land (vacant lot, looking to sell within a year), at cost (FMV: $250,000) 5,000

Fixed assets (Note 1) 245,000

Goodwill (FMV: $100,000) Nil

$537,000

Liabilities and Proprietor Equity

Bank loan $ 20,000

Accounts payable and accrued liabilities 10,000

Equipment loan 65,000

Mortgage on land and building 35,000

$130,000

Proprietor equity 407,000

$537,000

Note to Balance Sheet data:

1. Net book

Cost value UCC FMV

Land $ 60,000 $ 60,000 - $100,000

Building (Class 1) 40,000 30,000 $ 28,600 75,000

Machinery and equipment (Class 29) 125,000 78,000 53,000 70,000

Office Furniture (Class 8) 80,000 52,000 36,800 30,000

Computer hardware (Class 50) 30,000 20,000 17,300 16,000

Computer software (Class 12) 7,000 5,000 Nil 3,000

$342,000 $245,000 $135,700 $294,000

Required:

Analyze in technical detail, showing all calculations, the following issues in preparation of your advice to Mr. Donnarumma.

1. With respect to the assets described above consider:

(i) which assets should not be transferred to the corporation, with a very brief explanation of why;

(ii) which assets should be transferred to the corporation, but cannot or should not be transferred to the corporation under a subsection 85(1) election, with a very brief explanation and an indication of how these assets should be transferred and what amount of new debt consideration should be taken for each such asset; and

(iii) which assets should be transferred to the corporation under a subsection 85(1) election and the consideration that should be received for each asset so transferred.

Answer rating: 100% (QA)

ANSWER i The land should not be transferred to the corporation as it is a vacant lo... View the full answer