26 U.S.C. § 357 — Assumption of liability

(a) General rule: Usually, if you receive property in an exchange that would qualify for no gain under section 351 or 361, and as part of the deal someone else takes over one of your debts, that assumed debt is not treated as money or other property. It does not stop the exchange from qualifying under section 351 or 361. (b) Tax avoidance purpose: (1) In general: Look at the debt and the circumstances around the assumption. If the main reason someone took over the debt was to dodge federal income tax on the exchange, or if there was no real business reason for it, the full amount of the assumed debt is treated as money you received in the exchange. (2) Burden of proof: If you're the taxpayer and you must prove the debt assumption should not count as money, you only meet that burden with clear and convincing evidence — a simple "more likely than not" showing is not enough. (c) Liabilities in excess of basis: (1) In general: In an exchange under section 351, or under section 361 tied to a "Type D" reorganization (section 368(a)(1)(D)) where stock from the transferee corporation is spun off tax-free under section 355, if the total debt assumed is more than the adjusted basis of the property handed over, the extra amount is taxed as a gain from selling a capital asset (or non-capital asset, whichever fits). (2) Exceptions: This gain rule does not apply if (A) the tax-avoidance rule in (b)(1) already applies, or (B) the exchange is part of a "Type G" bankruptcy reorganization (section 368(a)(1)(G)) where no old shareholder of the transferring company gets anything for their stock. (3) Certain liabilities excluded: (A) In general: If, in a section 351 exchange, a taxpayer transfers a debt that either would create a tax deduction when paid, or is described in section 736(a) (retiring-partner payments), that debt is left out when adding up assumed liabilities under paragraph (1). (B) Exception: That exclusion does not apply if incurring the debt created or increased the basis of some property. (d) Determining how much liability was assumed: (1) In general: For this section and several related sections (358(d), 358(h), 361(b)(3), 362(d), 368(a)(1)(C), and 368(a)(2)(B)), unless regulations say otherwise: (A) a recourse debt (one the transferor is personally on the hook for) counts as assumed if, based on all the facts, the person receiving the property has agreed to pay it and is actually expected to pay it — even if the transferor hasn't been officially let off the hook. (B) A nonrecourse debt (one backed only by the property) is treated as assumed by whoever receives the asset that secures it, except as reduced under paragraph (2). (2) Exception for nonrecourse debt: Reduce the nonrecourse debt amount by the smaller of (A) the amount another owner of other property (not transferred, but also securing the debt) has agreed with the recipient to pay, or (B) the fair market value of that other property (without considering section 7701(g), a rule about below-market financing). (3) Regulations: The Treasury Secretary can write regulations needed to carry out this subsection and section 362(d), and can also set rules for how "assumed" liabilities are treated elsewhere in the tax code.