Section 351(a) provides no gain or loss is recognized if property is transferred to a corporation by one or more persons solely in exchange for stock in such corporation, and immediately after the exchange such person or persons are in control (as defined in Section 368(c)) of the corporation. One of the requirements is the issuance of stock in connection with the transaction. However, the courts have found that in certain circumstances, the actual issuance of stock is not necessary.

In Lessinger v. Commissioner, 872 F.2d 519 (2d Cir. 1989), the Second Circuit, citing a prior Ninth Circuit case, affirmed the Tax Court’s position that Section 351 can apply even where no exchange of stock occurred because the “[i]ssuance of new stock in this situation would be a meaningless gesture.” This meaningless gesture doctrine was applied in Lessinger where a contribution of additional capital to an existing corporation was made by a sole shareholder. The reasoning behind the doctrine is, particularly where there is a sole shareholder, any issuance of additional stock would not change the relative percentage ownership (or any other rights) of the shareholder, and accordingly, the issuance would be a meaningless gesture.

The application of the meaningless gesture doctrine is well established in the case of a contribution by a sole shareholder to its wholly owned corporation. The doctrine may also apply to contributions by the existing shareholders of a corporation that are made in proportion to the existing shareholders’ percentage ownership. For example, in PLR 9719030, a corporation was owned 50 percent by Couple A and 50 percent by Couple B. Each couple also owned a 50 percent interest in the land on which a restaurant was located. Couple A and Couple B proposed to transfer their interests in the land to the corporation. Because Couple A and Couple B owned the land and the corporation in identical proportions, no additional stock was issued. Citing Lessinger, the IRS ruled the transfer would be treated as if stock had been issued pursuant to the meaningless gesture doctrine and would be a tax-free contribution under Section 351(a).

John G. Hodnette is an attorney with Fox Rothschild, LLP in Charlotte.

April 7, 2025/by TAX