Chapter 9 - Nontaxable Exchanges
Questions and Problems for Discussion
Although Company PJ must have expended $700,000 for the 1,000 acres, it did not take a cost
basis in the land. Instead, PJ took a substituted basis of only $475,000 (basis of the property PJ
surrendered in the nontaxable exchange). Therefore, PJ’s recognized gain on sale of the land
will exceed the $600,000 appreciation by $225,000.
Because of the value-for-value presumption, the amounts realized by unrelated parties on the
exchange of property are always equal.
The tax consequences to unrelated parties engaging in a nontaxable exchange are completely
independent. For instance, one party could have a partially recognized gain while the other party
could have an unrecognized loss.
The substituted basis of the qualifying property received in a nontaxable exchange can be more,
less, or equal to the cost of the property, depending on the gain or loss deferred on the
If Firm A is transacting with the KLS Partnership itself, the contribution of property (the 2
percent interest in the MG Partnership) for a 10 percent equity interest in KLS is nontaxable
to both Firm A and KLS Partnership. However, if the other party is a partner in KLS (not the
partnership), the exchange is taxable to both parties.
Mr. B’s exchange of land for RV stock is taxable to Mr. B but nontaxable to RV.
Corporation C’s exchange of personalty for realty is taxable to both parties.
Company D’s exchange of inventory for a new computer system is taxable to Company C.
Not enough information is provided to determine if the exchange is taxable to the other
Because Firm Q is exchanging inventory for land, the exchange is taxable to Firm Q. Because
Company M is exchanging business realty for investment realty, the exchange is a nontaxable,
like-kind exchange to Company M.
Company W exchanged marketable securities for $250,000 of the $2 million FMV of Blackacre:
this exchange does not qualify as a like-kind exchange. Consequently, Company W recognizes
a $220,000 capital gain on the exchange.
If the value of the destroyed property exceeds the insurance reimbursement and the insurance
reimbursement exceeds the property’s adjusted basis, the owner suffers an economic loss but
realizes a gain.
A transfer of property to a corporation in exchange for the corporation’s stock is nontaxable only
if the transferor (or group of transferors) owns 80 percent or more of the corporation immediately
after the exchange. A transfer of property to a partnership in exchange for an equity interest is