Individuals A, B, and C organize a corporation with 101 shares of common stock. A and B each transfers to it $10,000 worth of the only class of stock of corporation X, listed on the New York Stock Exchange, in exchange for 50 shares of stock.
C transfers $200 worth of readily marketable securities in corporation Y for one share of stock.
In determining whether or not diversification has occurred, C’s participation in the transaction will be disregarded as de minimis. There is, therefore, no diversification, and gain or loss will not be recognized.
Section 351(e)(1) denies tax-free treatment when a transfer to an investment company results in diversification of the transferors’ interests.
C’s $200 contribution for a single share is so small relative to the whole that it is ignored in the diversification analysis.
A and B both contribute the same Corporation X stock, so their interests are not diversified by the exchange.
Because no diversification occurs, the exchange is not a transfer to an investment company and no gain or loss is recognized.
