The excess of net unrealized built-in gain over previously recognized built-in gain is $85,000.
Any C corporation with net unrealized built-in gain making an S election after December 31, 1986, is vulnerable.
Formula for Net Unrealized Built-in Gain Amount that would be realized upon sale of all assets as of first day of recognition period XXX Less: Liabilities included in amount realized that are deducted when paid -XXX Less: Aggregate adjusted basis of all assets -XXX Section 481 adjustments affecting sales on first day of recognition period (if the company has changed accounting methods) [+ or -]XXX Plus: Built-in loss disallowed under Sections 382, 383, or 384 (if the company has been through a corporate acquisition or reorganization) +XXX Net Unrealized Built-in Gain XXX EXHIBIT 2.
1) Net unrealized built-in gain is defined in Section 1374(d)(1) and Treasury Regulation 1.
The formula for calculating net unrealized built-in gains appears in Exhibit 1.
The regulations do not address how S corporations should establish such values; however, it may be advisable to have major assets appraised as well as entire businesses (for purposes of the net unrealized built-in gain limitation).
Net unrealized built-in gain should be computed carefully at the time of conversion to S status: The resulting amount must be disclosed on page 2 of Form 1120S, U.
While the IRS thought valuing such income or deduction items would be unduly burdensome, such items must be valued anyway in computing net unrealized built-in gain.
The gain is limited to the lesser of a corporation's taxable income (determined as if it was a C corporation with all items taken into account) or its net unrealized built-in gain limitation.
Although accounts receivable are only included in the calculation of net unrealized built-in gain to the extent of their FMV, for purposes of determining the amount of the recognized built-in gain attributable to these receivables, any amount collected during the recognition period will be considered a recognized built-in gain.
As of the effective date, ABC has unreported accounts receivable with a face value of $50,000 and an FMV of $40,000 included in its net unrealized built-in gain of $100,000.
ABC accrues $40,000 of compensation to its 100% shareholder-employee, to offset the net unrealized built-in gain from the accounts receivable.