Section 351 Transfers

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I.R.C. § 351

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What is a Section 351 Transfer?

I.R.C. Section 351 allows one or more individuals or entities to transfer property to a corporation solely in exchange for stock of that corporation without recognizing gain or loss on the transfer.

Immediately after the transfer, the transferor or transferors must be in control of the corporation. Under the tax code, “control” is defined as:

  • Having at least 80% of the total combined voting power of all classes of stock entitled to vote, and

  • Having at least 80% of the total number of shares of all other classes of stock (non-voting stock)

(Both tests must be met.)

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A Simple Way to Understand

Section 351 Tranfers

  • A Section 351 Transfer lets you move property, like equipment or investments, into a corporation you own without paying taxes on it right away
  • Think of it like trading your baseball cards for shares in a club you helped start, you still own the value, just in a new form
  • To qualify, the people making the transfer must own at least 80% of the corporation right after the deal
  • You only pay taxes later, when you sell the shares you got in exchange
  • This makes it a useful way to start or grow a business without a big tax bill on day one

Key Requirements for Section 351 Tranfer – Nonrecognition Treatment

 

Transfer of Property

The transferor must contribute property to the corporation. “Property” includes:

  • Cash
  • Tangible assets (equipment, real estate, inventory, etc.)
  • Intangible assets (patents, trademarks, goodwill, trade secrets, etc.)

Stock received for services does not qualify as property under Section 351 and is taxable as ordinary compensation income.

If a service provider receives stock, their shares generally do not count toward the 80% control test unless the amount of property contributed by the other transferors is still sufficient to satisfy the control requirement on its own.

Exchange Solely for Stock

The property must be exchanged exclusively for stock in the corporation.

If the transferor also receives boot (cash or other property), gain must be recognized up to the lesser of:

  • The amount of boot received, or
  • The realized gain on the transferred property

Losses are never recognized in a Section 351 exchange.

Control Requirement

Immediately after the exchange, the transferor(s) must own:

  • At least 80% of the voting power, and
  • At least 80% of the shares of all other classes of stock

Transfers do not need to be literally simultaneous but must be part of a previously arranged plan that proceeds with normal business expediency. If a transferor has a binding commitment to dispose of shares immediately after the exchange, the control test may fail.

Some Exceptions and Considerations for Section 351

 

Boot Received

If the transferor receives boot in addition to stock, they must recognize gain up to the lesser of the boot received or the realized gain.

This does not disqualify the entire transaction, only the boot portion is taxable.

Assumption of Liabilities

If the corporation assumes the transferor’s liabilities:

  • Generally not treated as boot, and
  • Generally does not trigger gain recognition

However, if the total liabilities assumed exceed the transferor’s total adjusted basis in the property transferred, the excess is recognized as gain under §357(c).

Liabilities incurred for a tax-avoidance purpose or not associated with the property may trigger separate recognition rules (§357(b)).

Services Rendered

Stock issued in exchange for services:

  • Is taxable compensation,
  • Does not count as property for the 80% control test, and
  • Can cause the entire transfer to fail Section 351 if the property-only transferors do not independently meet the 80% control requirement.

 

Investment Company Limitation

Section 351 does not apply if the transfer results in the corporation being treated as an investment company under §351(e), which generally includes corporations whose assets are mainly:

  • Marketable securities
  • Interests in regulated investment companies
  • Similar investment-type assets

Transferring property to such corporations generally results in immediate gain recognition.

Strategic Planning Tips

  • Ensure all property transfers intended to qualify are part of one coordinated plan, so the control requirement is met “immediately after” the exchange.

  • When multiple parties participate, they must collectively meet the 80% control threshold through property contributions only.

  • Confirm that the corporation will not be treated as an investment company, which would disqualify the exchange.

  • Any gain realized but not recognized due to Section 351 is deferred, not eliminated.

  • Property includes cash, tangible assets, and intangible assets — but not services.

  • Boot (money or property received in addition to stock) will generally trigger gain recognition.

  • Liabilities transferred are not treated as boot unless they exceed the adjusted basis of all transferred property.

Example: 

Individuals A and B, father and son, organize a corporation with 100 shares of common stock to which A transfers property worth $8,000 in exchange for 20 shares of stock, and B transfers property worth $2,000 in exchange for 80 shares of stock. No gain or loss will be recognized under section 351. However, if it is determined that A in fact made a gift to B, such gift will be subject to tax under section 2501 and following. Similarly, if B had rendered services to A (such services having no relation to the assets transferred or to the business of the corporation) and the disproportion in the amount of stock received constituted the payment of compensation by A to B, B will be taxable upon the fair market value of the 60 shares of stock received as compensation for services rendered, and A will realize gain or loss upon the difference between the basis to him of the 60 shares and their fair market value at the time of the exchange.

https://www.law.cornell.edu/uscode/text/26/351

 

If you have any questions on 351 Transfers, our team is here to help. Book a 15-Minute Discovery Call at https://assetstrategy.com/contact/

There are account risks that could diminish investor returns, such as, but not limited to: low interest rates, market volatility, withdrawal timing and sequence of returns risk, government policy uncertainty and increased longevity. Prospective investors should perform their own due diligence carefully and review the “Risk Factors” section of any prospectus, private placement memorandum or offering circular before considering any investment.

Potential cash flows/returns/appreciation are not guaranteed and could be lower than anticipated.

This is for informational purposes only, does not constitute individual investment advice, and should not be relied upon as tax or legal advice. Individuals should consult the appropriate professional regarding their individual circumstance.  Past performance is not indicative of future results.