The shareholders tentatively plan to distribute only enough cash out of Ladue during the current year to enable them to pay their income tax on corporate income, including the net capital gain attributable to the Benton stock sale. The remainder of the $1,000,000 cash sales proceeds will fund a major expansion of the corporate business. This expansion will require an additional $500,000 of capital, and the shareholders are considering two alternative methods to raise this amount.

The first alternative is for Ladue to negotiate a loan with a local bank. The loan will be secured by the preferred stock received in the Benton sale and guaranteed by the shareholders. The second alternative is for Richard Rogers to lend the money to Laude. Richard would take a 10- year note bearing a competitive. fixed interest rate. After four years, the remaining principal balance of the note would be convertible into Ladue common stock at Richards' option. The amount of Ladue stock issued to Richard would be determined by reference to the appraised value of the corporate business at the date of conversion.

What tax advise would you provide?