of the property transferred pursuant to such exchange, then such excess shall be considered as a gain from the sale or exchange of a capital asset or of property which is not a capital asset, as the case may be.

The parties agree that the liabilities assumed by the corporation, excluding accounts payable, amounted to $264,194.52, and that the total adjusted basis of the assets transferred, other than accounts receivable, was $325,892.33. They disagree on the treatment to be accorded the accounts receivable and accounts payable. The respondent contends that the adjusted basis of the accounts receivable was zero, that the accounts payable of $164,065.54 were liabilities, and that, therefore, the amount of the liabilities assumed, $428,260.06, exceeded the total adjusted basis of the assets transferred, $325,892.33, by $102,367.73. On the other hand, the petitioners contend that the adjusted basis of the accounts receivable is equal to the amount of the accounts payable, $164,065.54, and that, therefore, the amount of the liabilities assumed, $428,260.06, did not exceed the total adjusted basis of the assets transferred, $489,957.78. Alternatively, they contend that accounts payable of a cash basis taxpayer are not liabilities within the meaning of section 357 (c), and that, therefore, even if the accounts receivable had a zero basis, the amount of liabilities assumed within the meaning of section 357 (c), $264,194.52, did not exceed the total adjusted basis of the assets transferred, $325,892.33.

In Peter Raich, 46 T.C. 604 (1966), the assets of a sole proprietorship, including accounts receivable, were transferred to a corporation in a section 351 transaction, and the corporation assumed the liabilities, including the accounts payable, of the sole proprietorship. The issue was the same as in this case, and this Court concluded that the basis of a cash method taxpayer in accounts receivable was zero, treated the accounts payable as liabilities, and found that the liabilities assumed by the corporation exceeded the basis of the assets transferred. The petitioners take the position that the Raich case is distinguishable because that case involved a transfer of assets by a sole proprietor, whereas the present case involves a transfer of assets by a partnership. They argued at great length that section 751 and the regulations thereunder provide a different basis for the accounts receivable of a partnership. Section 751 (c) provides that for the purposes of subchapter K, the term "unrealized receivables" includes accounts receivable "to the extent not previously includible in income under the method of accounting used by the partnership." Section 1.751-1 (c) (2) of the Income Tax Regulations provides:

(2) The basis for such unrealized receivables shall include all costs or expenses attributable thereto paid or accrued but not previously taken into account under the partnership method of accounting.

The petitioners interpret such regulation to mean that, for all purposes throughout the Code, the accounts receivable of a partnership reporting its income on the cash receipts and disbursements method of accounting have a basis equal to the accounts payable attributable to such accounts receivable. They, therefore, conclude that their accounts receivable had a basis of $164,065.54.

The petitioners' argument overlooks the fact that section 751 has an altogether different purpose. That section has been referred to as the "collapsible" partnership provision. See, e.g., S. Rept. No. 1616, 86th Cong., 2d Sess., p. 77 (1960); S. Rept. No. 1622, 83d Cong., 2d Sess., p. 98 (1954); Willis, Partnership Taxation, sec. 20.08 (1971). It was enacted in response to cases such as Swiren v. Commissioner, 183 F. 2d 656 (C.A. 7, 1950), reversing a Memorandum Opinion of this Court, certiorari denied 340 U.S. 912 (1951). In Swiren, the taxpayer sold his partnership interest in a law firm, whose assets consisted largely of uncollected or unbilled legal fees, and the Court held that the entire gain from such sale was capital gain, even though the receipt of the legal fees by the partnership would have given rise to ordinary income. Section 751 (a) seeks to prevent such a "conversion of potential ordinary income into capital gain" (S. Rept. No. 1622, supra at p. 98), and it provides that:

(a) SALE OR EXCHANGE OF INTEREST IN PARTNERSHIP.-The amount of any money, or the fair market value of any property, received by a transferor partner in exchange for all or a part of his interest in the partnership attributable to(1) unrealized receivables of the partnership, or

(2) inventory items of the partnership which have appreciated substantially in value,

shall be considered as an amount realized from the sale or exchange of property other than a capital asset.

To assure that the rules of section 751 with respect to the transfer of partnership interests are not avoided by distributions of property to a partner, other sections of subchapter K provide special rules for the treatment of "section 751 property," including unrealized receivables, which is distributed to a partner. Secs. 731, 732, 735, 736, 741.

The regulations under section 751 are designed to provide a method of determining how much of the sale price of a partnership interest should be allocated to the "property other than a capital asset" and the amount of gain or loss which should be attributable to the transfer of such property. Thus, such regulations provide rules for measuring the amount of ordinary income to be recognized on the sale of a partnership interest. Such rules are also applicable under the other provisions of subchapter K relating to the distribution of section 751 property to a partner. It should be emphasized that the regulations under section 751 are designed to measure income, and not to establish gen

eral basis rules. Similarly, in Herman Glazer, 44 T.C. 541, 546 (1965), this Court was required to determine whether the proceeds of the sale of a partnership interest should be treated as ordinary income, and its statement (p. 549) concerning basis related only to the determination of the proper amount of such income.

On the contrary, section 357 deals with the tax consequences of the transfer of liabilities to a corporation in a transaction subject to section 351. In United States v. Hendler, 303 U.S. 564 (1938), it was held that if a corporation assumed a liability of the transferor, it was as if the corporation had made the payment to the transferor. The predecessor of section 357 (a) was enacted to change the rule established by Hendler; thus, liabilities could be transferred to a corporation in a transaction under section 351 without the transferor being taxed thereon. However, when that rule was enacted, Congress also enacted the limitation now appearing in section 357 (b); that is, if the principal purpose of the transfer of the liabilities was to avoid tax or was not a bona fide business purpose, the rule of section 357(a) was not applicable. Yet, Congress was apparently not satisfied with the results of the limitation set forth in section 357 (b), and consequently, in 1954, it enacted the rule of section 357 (c). That provision established a mechanical test; whenever the liabilities transferred exceed the basis of the property transferred, the excess is taxable. The provision is applicable irrespective of the value of the property transferred or of whether the transferor realized a gain or income on the transfer. Thus, in view of the altogether different purposes of sections 751 and 357 (c), there is no reason to extend to a transaction under section 357 (c) the rules developed under section 751.

Moreover, if we were to adopt the petitioners' argument that section 751 and the regulations thereunder are applicable when a partnership transfers its assets and liabilities to a corporation, such a transfer by a partnership would have different tax consequences than a similar transfer by a proprietor. See Peter Raich, 46 T.C. 604 (1966). Such a difference in tax treatment would be irrational, and its irrationality constitutes a persuasive reason for not reaching such a result. Nor is there any merit in the petitioners' reliance on section 771, for that section merely establishes the effective dates of the provisions of subchapter K; it does not define what transactions are subject to section. 751. Because we have found that the regulations under section 751 are not applicable in this case, we need not decide whether the petitioners' interpretation of the wording of section 1.751-1 (c) (2) is correct.

The petitioners also challenge our holding in Raich that accounts receivable have a zero basis in the hands of a taxpayer using the cash method of accounting. However, in the case of a taxpayer using that

method of accounting, it is generally accepted that the accounts receivable do have a zero basis. Peter Raich, supra at 610-611; see 3 Mertens, Law of Federal Income Taxation, sec. 20.159 fn. 9 (1972); 3 Rabkin & Johnson, Federal Income, Gift and Estate Taxation, sec. 31.05 (1973); White, "Sleepers that Travel with Section 351 Transfers," 56 Va. L. Rev. 37, 41 (1970); cf. Velma W. Alderman, 55 T.C. 662 (1971). Since the accounts payable represent expenses not yet paid, there is no reason to allow a deduction or otherwise take them into consideration in computing the income of a cash method taxpayer prior to their payment. See sec. 1.461-1 (a) (1), Income Tax Regs. Furthermore, the accounts receivable should be included in income when collected, and although the petitioners suggest that the basis of the receivables could be computed as if they had been acquired by purchase, there is no authority for such a proposition. Accordingly, we hold that the accounts receivable transferred by the petitioners to the corporation had a zero basis.

In the alternative, the petitioners point to the decision of the Second Circuit in Bongiovanni v. Commissioner, 470 F. 2d 921 (1972), reversing a Memorandum Opinion of this Court, and urge us to hold that accounts payable should not be treated as liabilities within the meaning of section 357 (c). In Bongiovanni, the circuit court believed that if accounts receivable and accounts payable are transferred to a corporation, it would frustrate the purpose of section 351 to hold that the transferor was taxable on the accounts payable under section 357 (c); accordingly, the court held (p. 924) that liabilities under section 357 (c) meant "liens in excess of tax costs, particularly mortgages encumbering property transferred in a Section 351 transaction." The petitioners appear to recognize that the Bongiovanni interpretation of liabilities is too narrow, but they suggest that the term should be construed to include only mortgages and other "capital loans."

The circuit court's holding in Bongiovanni cannot be reconciled with the language of section 357 (c); such provision is applicable when "the sum of the amount of the liabilities assumed, plus the amount of the liabilities to which the property is subject" exceeds the basis of the property transferred. If the term "liabilities" was limited to liens, there would be no need to refer, in section 357 (c), to liabilities which are assumed as separate from those to which the transferred property is subject. Moreover, in N.F. Testor, 40 T.C. 273 (1963), affd. 327 F. 2d 788 (C.A. 7, 1964), this Court and the Seventh Circuit both specifically held that section 357 (c) applied to a situation in which the only liabilities transferred were unsecured liabilities.

The Senate Finance Committee report, accompanying the enactment of section 357 (c), stated:

if an individual transfers, under section 351, property having a basis in his hands of $20,000, but subject to a mortgage of $50,000, to a corporation controlled by him, such individual will be subject to tax with respect to $30,000, the excess of the amount of the liability over the adjusted basis of the property in the hands of the transferor. [S. Rept. No. 1622, 83d Cong., 2d Sess., p. 270 (1954).]

Thus, the operation of the rule is illustrated by a situation involving a secured liability. However, there is no other indication in the legislative history that the term liabilities should be confined to secured liabilities. Furthermore, there is no reason to believe that Congress intended for the rule not to apply if the transferor secured funds by means of an unsecured loan and transferred both the assets and that obligation to a new corporation. Nor is there any reason to believe that section 357 (c) was intended never to apply to a transfer of accounts payable. For example, if a proprietor transfers accounts payable in excess of accounts receivable and no other assets, he is relieved of the necessity of paying off the excess of liabilities, and Congress may have intended for section 357 (c) to apply in such a situation.

We recognize that if section 357 (c) is applied when a proprietor or partnership transfers to a corporation a going business, including accounts receivable, accounts payable, and other assets, it may appear to undermine the purpose of section 351. Yet, there is no support for adopting the definition suggested by the petitioners, and we can find no rational basis for giving the term "liabilities" a restrictive meaning. Under these circumstances, we must assume that Congress intended for the term "liabilities" to have its ordinary meaning. United States v. Stewart, 311 U.S. 60 (1940).

Nor can we remake the transaction for the parties. Weiss v. Stearn, 265 U.S. 242, 254 (1924); Paula Construction Co., 58 T.C. 1055 (1972), affirmed per curiam 474 F. 2d 1345 (C.A. 5, 1973). If the partnership had withheld accounts payable and an equivalent amount of the accounts receivable, the tax consequences would have been altogether different. However, the accounts payable and the accounts receivable were all transferred to the corporation, and since the corporation has collected the accounts receivable and paid the accounts payable, we cannot ignore such facts and determine the tax consequences for the corporation as if such transfer had not taken place. Thus, we hold that the accounts payable transferred by the petitioners to the corporation must be treated as liabilities under section 357 (c). The resolution of the problem illustrated by this case will require Congress and the Administration to reconsider the mechanical test adopted in 1954 and to decide what rule should be applied to a transfer of liabilities; it will then be necessary for them to take appropriate legislative or administrative action.