Would tax apply when a service sole proprietor transferred all assets and liabilities to a new corporation for all stock and a corporate note?

Plain-English summary

A sole proprietor rendered services primarily to government agencies and wished to incorporate. The plan transferred all assets at net book value and all liabilities to a new corporation. In return, the proprietor would receive all capital stock plus a corporate note: $38,000 of stock and a $30,000 note recording the business's $68,000 net worth.

Assuming the proprietor was not a retailer or seller required to hold a permit, the asset transfer qualified as an occasional sale under section 6006.5(a), unless part of a sufficient series of sales. The letter also said that if the proprietor did conduct a permit-requiring activity, subsection (b) would apply because all property moved and the sole owner became the corporation's stockholder, preserving ultimate ownership.

Vehicles, vessels, and aircraft were governed separately. They qualified under section 6281 on the assumed facts because all business property transferred and ownership remained substantially similar. The letter repeatedly cautioned that its answer depended on factual assumptions caused by the limited inquiry.

Permit presumptions, two occasional-sale routes, registered property, and missing record

The September 19, 1969 request was sent to Frank Lagomarsino and referred to Tax Counsel J. Kenneth McManigal, but it is not included. The requester and proprietor are unidentified. The official scan visibly confirms the names and substantive text; its embedded Paper Capture layer garbles some letters and punctuation. No case citation appears, so there was no scanned-source case citation to submit for bulk verification.

The requester said the proprietor held no resale permit. McManigal presumed that meant no seller's permit. From the statement that services went primarily to governmental agencies, he further presumed the proprietor was not a retailer under sections 6015 and 6019, not a seller under section 6014, and not required to hold a seller's permit under section 6066. The source supplies no contract, invoice, customer, sale, permit search, resale certificate, return, revenue breakdown, or activity history proving those presumptions.

On that primary assumption, section 6006.5(a) treated the property as an occasional sale because it was not held or used in a permit-requiring activity. The route failed if this transfer belonged to a series sufficient in number, scope and character to create a permit-requiring activity. McManigal said such a series would also make it questionable whether the proprietorship truly rendered services. No prior or later sale record or series analysis appears.

The alternative route assumed a permit-requiring activity. Section 6006.5(b) nonetheless applied because all property held or used in that activity transferred and the sole owner became the corporation's stockholder, leaving real ownership the same. Section 6367 exempted ordinary tangible property under either route.

Section 6367 excluded registered vehicles, vessels, and aircraft from that general exemption. McManigal separately applied section 6281 because all business property would transfer and ownership would remain substantially similar through the stockholder. The source identifies no vehicle, vessel, aircraft, title, registration, value, location, debt, or transfer.

The plan was not a stock-only exchange. It expressly gave the proprietor $38,000 of capital stock and a $30,000 corporation note for $68,000 of recorded net worth while the corporation assumed all liabilities. The source supplies no asset value, depreciation, liability amount, creditor, net-book-value worksheet, stock shares or class, note principal confirmation or terms, interest, maturity, payment, security, or closing.

The live annotation says assets and liabilities moved for all corporate stock and correctly states the alternative subsections (a) and (b). It omits the corporate note, all dollar values, net-book-value transfer, governmental-agency clients, retailer and seller presumptions, statutory definition sections, registered-property exclusion and section 6281 route, explicit limited-facts warning, missing records, and absent completed outcome.

McManigal summarized that taxes would not apply in the situation which you have posed, then emphasized that several necessary factual assumptions could make sales or use tax apply if wrong. He offered reconsideration if the requester provided different facts. No response, formation, transfer, return, audit, assessment, payment, claim, appeal, or later outcome appears.

What this means for you

Sole proprietors incorporating service businesses

The historical no-tax result depended on transferring all assets and liabilities, preserving ownership, and accurately establishing that the business did not require a seller's permit.

Accountants and tax professionals

Verify each statutory presumption rather than relying on a service label or missing permit. Preserve seller and retailer activity, sale-series history, all asset and liability schedules, net book values, stock and note terms, registered-property records, ultimate ownership, formation, closing, and actual tax reporting.

Common questions

Q: Did the proprietor receive only stock?
A: No. The stated plan included $38,000 of stock and a $30,000 corporate note.

Q: Why did subsection (a) apply on the primary assumption?
A: The service assets were assumed not to be held or used in an activity requiring a seller's permit.

Q: What was the alternate subsection (b) rationale?
A: All business property transferred and the same individual remained ultimate owner through all corporate stock.

Q: Were vehicles, vessels, and aircraft automatically covered by section 6367?
A: No. The letter applied the separate section 6281 rule and relied on transfer of all property with similar ownership.

Q: Did the lack of a resale permit prove no seller's permit was required?

A: No. Counsel construed the request's phrase and expressly presumed no seller's permit, retailer status, or seller status because the request lacked detail.

Q: Could a series of otherwise occasional sales change subsection (a)?

A: Yes. A series sufficient in number, scope and character to require a permit would defeat that route, though subsection (b) could still apply on the other assumed facts.

Q: Did the live annotation disclose the $30,000 corporate note?

A: No. The supporting opinion states both $38,000 of stock and a $30,000 note for $68,000 of net worth.

Q: Did the incorporation and tax result occur?

A: The source does not say.

Citations and references

• California Revenue and Taxation Code §§ 6006.5(a), 6006.5(b), 6014, 6015, 6019, 6066, 6281, and 6367
• Chapter 3.5, California Revenue and Taxation Code §§ 6271–6292, as identified in the source
• September 19, 1969 request — described but not included
• Proprietor, corporation, government-customer, retailer, seller, permit, sale-series, asset, liability, net-book-value, stock, note, vehicle, vessel, aircraft, transfer, return, audit, assessment, payment, claim, appeal, and outcome records — described or implicated but not included

Verbatim support

From the visually reviewed official October 8, 1969 J. Kenneth McManigal opinion:

As a result of incorporation, the net worth of the proprietorship ($68,000) would now be recorded as Note Payable ($30,000) and Capital Stock ($38,000).

By "he does not hold a resale permit", we presume you mean that the individual does not hold a seller's permit.

In summary, sales and use taxes would not apply in the situation which you have posed.

However, in considering this question we have made several factual assumptions which were necessitated by the lack of a detailed explanation of the situation in your letter.

Source

• Annotated Legal Opinions collection: CDTFA Annotated Legal Opinions
• Live annotation: Annotation 395.1900
• Original supporting opinion: 395.1900 PDF

Original ruling text

395.1900
October 8, 1969

Your letter dated September 19, 1969 directed to Mr. Frank La~o­ marsino has been referred to me :for reply. You ask how sales/ use tax would apply in the following situation: An individual who

owns and operates a sole proprietorship which renders services primarily to governmental agencies wishes to incorporate his business. He does not hold a resale permit. The plan of incorporation involves the transfer of all the pro­ prietorship's assets at net book value and all liabilities in exchange for all the capital· stock of the corporation and the corporation's note. As a result of incorporation, the net worth of the proprietorship ($68,000) would now be recorded as Note Payable ($30,000) and Capital Stock {$38,000).

By "he does not hold a resale permit", we presume you mean that the individual does not hold a seller's permit . By "proprietor­ ship which renders services primarily to governmental agencies", we presume that the individual is not a "retailer" {Sections 6015 and 6019), is not a "seller" {Section 6014)t and is not required to hold a seller's permit {Section 6066J.

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Sales and Use Tax Law Section 6367 exempts gross receipts from occasional sales of tangible personal property from sales and use taxes. However, that section further provides that the exemption does not apply to the gross receipts :from the sale o:f, or to the storage, use or other consumption in this state of a vehicle required to be registered under the Vehicle Code or of a vessel or aircraft as defined in Article 1 of Chapter 3.5 of the law. "Occasional sale" is defined in Section 6006.5 to include: "(a) A sale of property not held or used by a seller in the course of an activity for which he is required to hold a seller's permit, provided such sale is not one of a series of sales sufficient in number, scope and character to constitute an activity requiring the holding of a seller's permit;" or, 0

"(b) Any transfer of all or substantially all the property held or used by a person in the course of such an activity when after such transfer the real or ultimate ownership of such property is substantially similar to that which existed before such transfer."

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395.1900
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October 8, 1969

Assuming that the assets sold were in fact not held or used by the individual in the course of an activity for which he was required to hold a seller's pennit, the sale would qualify as an occasional sale (Section 6006.5(a)) and, with the exception of any aforesaid vehicles, vessels or aircraft, would be exempt from sales and use taxes (Section 6367), unless the sale was one of a series sufficient in number, scope and character to constitute an activity requiring the holding of a permit. If this latter .s ituation were the case, it would be questionable whether the proprietorship renders services. In this event, the sale would not qualify as an occasional sale pursuant to Section 6006.5(a), but it would qualify as an occasional sale pursuant to Section 6006.5(b) and again, with the exception of vehicles, vessels or aircraft, would be exempt from sales and use taxes (Section 6367). The transfer would qualify because all the property held or used in the course of an activity for which the individual isrequired to hold a seller's permit is transferred, and because subsequent thereto, the ownership of the property is the same as that which existed before the transfer. For purposes of Section 6006.5(b), stockholders of a corporation are regarded as having the 11 real" ownership of the property of the corporation. I

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Chapter 3.5 (Sections 6271 to 6292) relates to sales of vehi­ cles, vessels and aircraft . Section 6281 provides that the gross receipts from the sale of and the storage, use or other consumption in this state of a vehicle required to be regis­ tered under the Vehicle Code or a vessel or aircraft are ex­ empted from sales and use taxes when such property is included in any transfer of all the property held or used in the course of a business activity of the person selling the property, and when after such transfer the ownership of the property is substantially similar to that which existed before such trans­ fer. Thus, any vehicles, vessels or aircraft included in the assets transferred would be exempt from taxes pursuant to this section because all the property was transferred and because the ownership of the property was the same as that which existed before the transfer. For purposes of this section, stockholders are also regarded as having the "real" ownership of the property of the corporation. In summary, sales and use taxes would not apply in the situa­ tion which you have posed. However, in considering this ques­ tion we have made several factual assumptions which were nec­ essitated by the lack of a detailed explanation of the situa­ tion in your letter. Thus, if any of these assumptions are contrary to the situation you have in mind, it is possible

395.1900

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October 8, 1969

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that sales or use tax might apply. In the event that the facts are other than as assumed, upon being so advised by you, we shall give further consideration to your question. Very truly yours,

J. Kenneth McManigal
Tax Counsel
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