P Corporation, a widely held conglomerate, has 200,000 shares of a single class of common stock outstanding. Each share is worth $90. P has E&P of $900,000. P plans on merging with S Corporation, which manufactures furni-ture. S's 2,000 shares are owned equally by I, J, K, L, and M. I and J each paid $50 per share while the other three shareholders paid $120 for their shares. S's stock is now worth $100 per share. S has $250,000 of E&P. I and K are also creditors of S. Each paid $75,000 for S's 10-year bonds. The bonds have a $75,000 face value, pay 8% interest and are currently worth $90,000 each. Under the terms of the merger agreement, each S shareholder receives 500 shares of P Corporation. Each of S's creditors receives 1,200 shares of S stock.

 

a. What gain or loss is realized and recognized by the shareholders and creditors of S?
b. What is each shareholder's basis for the stock received?

c. What are the tax consequences to P and S?

Answer rating: 100% (QA)

a To determine the gain or loss realized and recognized by the shareholders and creditors of S we need to compare the fair market value FMV of the assets received with their adjusted basis Shareholders of S I and J each paid 50 per share for their S Corporation shares and they will receive 500 shares of P Corporation stock The FMV of the 500 shares of P Corporation stock is 90 per share so the total FMV is 45000 500 shares 90 The adjusted basis for I and Js S Corporation shares is 50 per share so their total adjusted basis is 25000 500 shares 50 Therefore the gain realized by I and J is 45000 25000 20000 The gain recognized will be determined based on the specific tax rules applicable to the transaction such as taxfree reorganization rules or other provisions Without additional information about the nature of the merger it is not possible to determine the recognized gain K L and M each paid 120 per share for their S Corporation shares and they will also receive 500 shares of P Corporation stock The FMV of the 500 shares of P Corporation stock is 90 per share so the total FMV is 45000 500 shares 90 The adjusted basis for K L and Ms S Corporation shares is 120 per share so their total adjusted basis is 60000 500 shares 120 Therefore the loss realized by K L and M is 60000 45000 15000 The loss recognized will be determined based on the specific tax rules applicable to the transaction such as taxfree reorganization rules or other provisions Without additional information about the nature of the merger it is not possible to determine the recognized loss Creditors of S I and K I and K are creditors of S Corporation and will receive 1200 shares of S Corporation stock each The FMV of the 1200 shares of S Corporation stock is 100 per share so the total FMV is 120000 1200 shares 100 The adjusted basis for the creditors is determined by the amount they paid for the bonds Each creditor paid 75000 for the bonds Therefore the gain realized by I and K is 120000 75000 45000 The gain recognized will be determined based on the specific tax rules applicable to the transaction such as debttoequity rules or other provisions Without additional information about the nature of the merger it is not possible to determine the recognized gain b The basis for the stock received by each shareholder ... View the full answer