## Facts

- C-lec Plastics, Inc., a New Jersey corporation, designed and produced plastic injection molds for a customer before May 31, 1970.
- C-lec deducted the molds’ production costs on its corporate return, leaving the molds with a zero basis in C-lec’s hands.
- In 1972, C-lec abandoned the molds, and its president and sole shareholder, Edward D. Walsh, took possession; Walsh’s basis in the molds was zero.
- By 1973, C-lec owed Walsh nearly $54,000 on an open account.
- In 1973, Walsh transferred the molds back to C-lec in a multi-step transaction in which C-lec:
  - credited Walsh’s open account by $37,000,
  - issued Walsh 500 shares valued at $80 per share (about $40,000 total), and
  - further reduced its debt to Walsh by almost $3,000.
- Walsh reported no income from the transfer of the molds.
- In December 1973, a fire destroyed the molds.
- C-lec claimed a casualty-loss deduction under I.R.C. § 165 using a $37,000 basis (matching the book credit).
- The IRS disallowed the deduction on the ground that C-lec’s adjusted basis in the molds was zero and determined a deficiency of about $14,717.

## Issues

1. Whether the 1973 transfer of the molds from Walsh to C-lec was a sale creating a corporate cost basis, or a nonrecognition transfer governed by I.R.C. § 351.
2. If § 351 applied, whether I.R.C. § 362 required C-lec to take Walsh’s zero carryover basis, eliminating any deductible casualty loss under I.R.C. § 165.

## Decision

- The Tax Court sustained the deficiency.
- The court treated the 1973 steps as one integrated transaction and held the molds were transferred to a controlled corporation in an exchange within I.R.C. § 351.
- Under I.R.C. § 362(a), C-lec’s basis equaled Walsh’s basis (zero), with no increase because Walsh recognized no gain.
- Because C-lec’s adjusted basis was zero, it had no allowable casualty-loss deduction under I.R.C. § 165 when the molds were destroyed by fire.

## Legal Principles

- Transactions between a sole shareholder and a controlled corporation may be characterized by their overall economic effect, not isolated bookkeeping entries.
- A transfer of property to a corporation controlled by the transferor, made in exchange for stock and related debt relief, can qualify as an I.R.C. § 351 exchange.
- In a § 351 exchange, I.R.C. § 362(a) generally gives the corporation a carryover basis equal to the transferor’s basis, increased only by gain recognized by the transferor.
- A casualty-loss deduction under I.R.C. § 165 is limited by the taxpayer’s adjusted basis; if adjusted basis is zero, no deduction is allowed.

## Conclusion

The Tax Court held that Walsh’s reconveyance of the zero-basis molds to his wholly owned corporation was a § 351 transfer resulting in a zero carryover basis under § 362(a), so the corporation could not claim a § 165 casualty-loss deduction after the molds were destroyed by fire.


C-lec Plastics, Inc. v. Commissioner, 76 T.C. 601 (1981)