Question

Amy and Brian were investigating the acquisition of a tax accounting business, Bottom Line Inc. (BLI). As part of their discussions with the sole shareholder of the corporation, Ernesto Young, they examined the company's tax accounting balance sheet. The relevant information is summarized as follows:
FMV Adjusted Basis Appreciation

  Cash $32,250 $32,250
  Receivables 18,600 18,600
  Building 136,000 68,000 68,000
  Land 269,250 89,750 179,500
Total $456,100 $208,600 $247,500
Payables $27,200 $27,200
  Mortgage* 135,750 135,750
Total $162,950 $162,950


Ernesto was asking for $408,000 for the company. His tax basis in the BLI stock was $150,000. Included in the sales price was an unrecognized customer list valued at $150,000. The unallocated portion of the purchase price ($68,000) will be recorded as goodwill. Required:
a. What amount of gain or loss does BLI recognize if the transaction is structured as a direct asset sale to Amy and Brian? What amount of corporate level tax does BLI pay as a result of the transaction, assuming a tax rate of 34 percent?
b. What amount of gain or loss does Ernesto recognize if the transaction is structured as a direct asset sale to Amy and Brian, and BLI distributes the after-tax proceeds (computed in question a) to Ernesto in liquidation of his stock?
c. What is the nature of tax benefits to Amy and Brian as a result of structuring the acquisition as a direct asset purchase?
d. What is the tax basis in the assets received by Amy and Brian?

Answer 1

Answer:

Bottom Line, Inc. (BLI)

a. The amount of gain that BLI should recognize if the transaction is structured as a direct asset sale to Amy and Brian is:

= $199,400

BLI will a corporate tax of $ 67,796 ($199,400 * 34%) as a result of the transaction.

b. The amount of gain that Ernesto recognizes when BLI distributes the after-tax proceeds to Ernesto in liquidation of his stock is:

=  $190,204

c. Amy and Brian can step up the tax basis of the assets to their fair market values.

d. The tax basis in the assets received by Amy and Brian is:

= $408,000

Explanation:

a) Data and Calculations:

                          FMV    Adjusted Basis         Appreciation

Cash               $32,250       $32,250

Receivables       18,600          18,600

Building           136,000         68,000               68,000

Land               269,250         89,750              179,500

Total              $456,100    $208,600           $247,500

Payables        $27,200       $27,200

Mortgage*      135,750        135,750

Total            $162,950      $162,950

Net Value    $293,150       $45,650

Sales price for the company = $408,000

Ernesto tax basis in BLI stock =  150,000

Difference =                              $258,000

Unrecognized customer list =    150,000

Unallocated Goodwill =            $108,000

Gain to be recognized if transaction is a direct asset sale:

Sales price =   $408,000

Adjusted basis 208,600

Capital gain =  $199,400

After-tax proceeds:

Sales price =                             $408,000

Corporate tax on capital gain = $ 67,796

After-tax proceeds =                $340,204

Ernesto's tax basis =                  150,000

Capital gain for Ernesto =        $190,204