Cool Touch Cookware (CTC) has been in business for about 10 years now. Daisy and Kesha are each 50 percent owners of the business. They initially esta
Cool Touch Cookware (CTC) has been in business for about 10 years now. Daisy and Kesha are each 50 percent owners of the business. They initially established the business with cash contributions. CTC manufactures unique cookware that remains cool to the touch when in use. CTC has been fairly profitable over the years. Daisy and Kesha have both been actively involved in managing the business. They have developed very good personal relationships with many customers (both wholesale and retail) that, Daisy and Kesha believe, keep the customers coming back.
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On September 30 of the current year, CTC had all of its assets appraised. Below is CTC’s balance sheet, as of September 30, with the corresponding appraisals of the fair market value of all of its assets. Note that CTC has several depreciated assets. CTC uses the hybrid method of accounting. It accounts for its gross margin-related items under the accrual method, and it accounts for everything else using the cash method of accounting.
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Assets Adjusted
\r\nTax Basis
\r\nFMV
\r\nCash $150,000 $150,000
\r\nAccounts receivable 20,000 15,000
\r\nInventory* 90,000 300,000
\r\nEquipment 120,000 100,000
\r\nInvestment in XYZ stock 40,000 120,000
\r\nLand (used in the business) 80,000 70,000
\r\nBuilding 200,000 180,000
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Total Assets $700,000 $935,000**
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Liabilities
\r\nAccounts payable $ 40,000
\r\nBank loan60,000
\r\nMortgage on building100,000
\r\nEquity 500,000
\r\nTotal liabilities and equity$700,000
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*CTC uses the LIFO method for determining the adjusted basis of its inventory. Its basis in the inventory under the FIFO method would have been $110,000.
\r\n**In addition, Daisy and Kesha had the entire business appraised at $1,135,000, which is $200,000 more than the value of the identifiable assets.
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From January 1 of the current year through September 30, CTC reported the following income:
\r\nOrdinary business income $530,000
\r\nDividends from XYZ stock $12,000
\r\nLong-term capital losses $15,000
\r\nInterest income $ 3,000
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Daisy and Kesha are considering changing the business form of CTC.
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Required:
\r\na. Assume CTC is organized as a C corporation. Identify significant tax and nontax issues associated with converting CTC from a C corporation to an S corporation. [Hint: see §§1374 and 1363(d).]
\r\nb. Assume CTC is organized as a C corporation. Identify significant tax and nontax issues associated with converting CTC from a C corporation to an LLC. Assume CTC converts to an LLC (taxed as a partnership) by distributing its assets to its shareholders, who then contribute the assets to a new LLC. [Hint: see §§331, 336, and 721(a).]
\r\nc. Assume that CTC is a C corporation with a net operating loss carryforward as of the beginning of the year in the amount of $500,000 and that the NOL originated in 2019. Identify significant tax and nontax issues associated with converting CTC from a C corporation to an LLC (taxed as a partnership). Assume CTC converts to an LLC by distributing its assets to its shareholders, who then contribute the assets to a new LLC. [Hint: see §§172(a), 331, 336, and 721(a).]
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