Bob created MNO Inc. several years ago and has owned all 10 outstanding shares o

Question

Bob created MNO Inc. several years ago and has owned all 10 outstanding shares of MNO Inc. since the creation of MNO Inc. The fair market value of those shares is now $50,000. Bob’s friend, Lee, owns a building having a fair market value of $80,000 and an adjusted basis to Lee of $20,000. The building is encumbered by a $30,000 mortgage. Earlier this month, Bob and Lee discussed Lee’s becoming involved in the business of MNO Inc., and as a result of these discussions, Lee transferred the building to MNO Inc. and in exchange for the building, MNO Inc. transferred to Lee 10 shares of authorized but not previously issued stock of MNO Inc. After the transaction there were 20 shares of stock issued and outstanding. How much gain was realized and recognized by Lee as a result of this transaction?

Explanation / Answer

Fair market value of shares= $50000 this is the consideration against which LEE is exchanging his building

Now adjusted basis for Lee is $20000 and encumbrance is $30000 so when he exchanges it against share he is receving $50000, so $10000 is realized gain(30000-20000), extra encumberence is treated as cash for tax pupose plus he recices $50000 shares so recognized gain is $50000+$10000= $60000

So the recognized gain is $60000 and relized gain is $10000

Dr Cr

Common Stock $50000

Encumbrance transferred to MNO 30000

Building 20000

Gain on exchange of Building 60000

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