LO.4, 7 Ted purchased equipment and used materials to develop a patent. The development costs were deducted on prior returns. The bases and fair market values of the assets are presented below.

Assets Fair Market Value Basis Equipment $350,000 Cost $ 450,000 Less: Depreciation (350,000)

Patent 250,000 –0–

$600,000 $ 100,000 Sarah has made an offer to purchase the assets. Under one plan, she would pay

$200,000 now and $400,000 plus interest at 5% (the Federal rate) in one year. Alternatively, Ted would incorporate the assets and then sell the stock to Sarah. Incorporating the assets would not be a taxable event to Ted, and his basis in the stock would equal his basis in the assets of $100,000. The corporation’s basis in the assets would also be $100,000, the same as Ted’s basis for the stock. Because the corporation would have a basis in the assets of less than the fair market value, and therefore there would be less depreciation and amortization than with an asset sale by Ted, Sarah would pay $200,000 in the current year but only

$350,000, plus interest at 5%, in one year. Assume that Ted’s marginal tax rate is 35%.

a. What is Ted’s gain in the year of sale from the installment sale of his assets?

b. Assuming that Ted’s time value of money is 5%, would he prefer the sale of the assets or the sale of the stock?