Arnie, Becky, and Clay are equal partners in the ABC General Partnership. The three individuals each have a $120,000 tax basis in their partnership interest. For business reasons, the partnership needs to be changed into the ABC Corporation, and all three owners agree to the change. The partnership is expected to have the following assets on the date that the change is to occur:

Liabilities of $75,000 are currently outstanding. The liabilities are shared equally and are already included in the $120,000 bases of the partnership interests. The structure being considered for making the change is as follows:

• ABC Partnership transfers all its assets and liabilities to the new ABC Corporation in exchange for all the corporation’s stock.

• ABC Partnership then liquidates by distributing the ABC stock to Arnie, Becky, and Clay.

Required:

The tax manager you work for has asked you to determine the tax and financial accounting consequences. Describe the financial and tax treatments in a short memorandum to the partnership. Be sure to mention any relevant IRC sections, Treasury Regulations, revenue rulings, and accounting standards. Assume a 35% corporate tax rate.