D'Angelo Assoc., Inc. v. Commissioner
70 T.C. 121, 70 T.C. No. 12, 1978 U.S. Tax Ct. LEXIS 129 (1978)
Premium Feature
Subscribe to Lexplug to listen to the Case Podcast.
Rule of Law:
A transfer of property to a corporation in exchange for a long-term note will be treated as a nontaxable exchange under IRC § 351, rather than a sale, if the transfer is part of an integrated plan of incorporation and the note represents a continuing proprietary interest in the business, thereby qualifying as a 'security.' The 'control' requirement of § 351 is met if the transferor has the power to designate the recipient of the stock, even if the stock is immediately gifted to family members.
Facts:
- Dr. and Mrs. D'Angelo incorporated D'Angelo Associates, Inc.
- Dr. D'Angelo transferred $15,000 in cash to the new corporation.
- At Dr. D'Angelo's direction, the corporation issued 10 shares of stock to Mrs. D'Angelo and 50 shares (representing a controlling interest) to their five minor children, held in trust by Dr. D'Angelo.
- A few days later, Dr. and Mrs. D'Angelo transferred real property and equipment used for Dr. D'Angelo's dental practice to the corporation.
- In exchange for the property, the corporation gave the D'Angelos $15,000 cash, assumed a mortgage liability of approximately $44,000, and issued a $96,727.85 interest-bearing demand note to Dr. D'Angelo.
- On their personal tax return, the D'Angelos reported the transfer as a sale, generating a capital gain that was fully offset by prior capital losses.
- No payments of principal or interest were made on the demand note for over 10 years, and subsequent payments were minimal and made through an unusual bookkeeping method.
Procedural Posture:
- D'Angelo Associates, Inc. (petitioner) filed its corporate income tax return for the fiscal year ended June 30, 1970, claiming depreciation deductions based on a 'purchase price' basis for assets acquired from the D'Angelos.
- The Commissioner of Internal Revenue (respondent) issued a notice of deficiency, determining petitioner owed $1,453.44 in additional tax.
- The Commissioner's determination was based on re-characterizing the property transfer as a § 351 exchange, which required the petitioner to use a lower, carryover basis for depreciation.
- Petitioner D'Angelo Associates, Inc. challenged the deficiency by filing a petition in the United States Tax Court.
Premium Content
Subscribe to Lexplug to view the complete brief
You're viewing a preview with Rule of Law, Facts, and Procedural Posture
Issue:
Does a transaction structured as a 'sale' of property to a newly formed corporation constitute a nontaxable exchange under IRC § 351 when, as part of an integrated plan, the transferors fund the corporation, receive a long-term demand note, and immediately direct the issuance of controlling stock to their children as a gift?
Opinions:
Majority - Wilbur, Judge
Yes, the transaction constitutes a nontaxable exchange under IRC § 351 because it was part of an integrated plan of incorporation where the transferors maintained control and received a security representing a continuing interest in the enterprise. First, applying the substance-over-form doctrine, the court found that the formation of the corporation, the cash contribution, and the property transfer were integral parts of a single plan to transfer assets to corporate ownership, not a separate sale. Second, the court held that the control requirement was satisfied because Dr. and Mrs. D'Angelo possessed the absolute right to designate who would receive the stock, and an immediate, pre-planned gift of that stock to their children does not negate control 'immediately after the exchange.' Finally, the court concluded the demand note was a 'security' under the multi-factor test from Camp Wolters Enterprises, Inc. v. Commissioner. The note was integral to the corporation's formation, the transferred assets were essential to its business, repayment was dependent on business earnings over many years, and the long delay in payments demonstrated it was a continuing investment rather than the equivalent of cash.
Analysis:
This decision reinforces the primacy of the 'substance over form' doctrine in tax law, particularly for § 351 incorporations. It clarifies that courts will look through the formal structure of a transaction to its economic reality, integrating separate steps into a single plan. The case establishes a key precedent regarding the § 351 'control' requirement, holding that the power to direct the disposition of stock is sufficient, even if the transferor never physically possesses the shares before gifting them. This significantly impacts tax planning for family businesses, as it prevents taxpayers from easily circumventing § 351 by structuring a transfer as a 'sale' to achieve a stepped-up basis while simultaneously transferring ownership to the next generation.
