How should potential income taxes on a corporation’s built-in gain—that is, the excess of the fair market value of its assets over their tax basis—be taken into account in determining the fair market value of the stock of the corporation? This issue arises in many tax controversies, including valuation of property for estate and gift tax purposes, determination of gain required to be recognized by reason of distribution of stock of a subsidiary, and valuation of amounts received on a taxable exchange of securities.
Prior to enactment of the Tax Reform Act of 1986, courts often disregarded the corporate tax that might be imposed on a sale of assets of the corporation in determining the value of its stock, absent some evidence that an event that would trigger that tax was imminent.1 This approach reflected Internal Revenue Code provisions that then provided several significant options for avoiding any tax at the corporate level on a sale of assets, particularly in the context of a corporate liquidation, even if the assets were sold to a third party for cash.
