Discussion Archives:1099C, insolvency, valuing assets

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Discussion Forum Index --> Tax Questions --> 1099C, insolvency, valuing assets

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Earl (talk|edits) said:

25 May 2006


Dennis, when you calculate if the taxpayer is insolvent, do you take into account the equity in his residence? (5-25-06)

Thanks, Earl

Earl 11:04, 25 May 2006 (CDT) (message posted to Dennis's talk page)

Dennis (talk|edits) said:

25 May 2006
I would.

(And I prefer to offer opinions in open space, rather than in response to private messages because someone is sure to correct me if I'm wrong.)

Taxref (talk|edits) said:

25 May 2006
I agree with Dennis. The insolvency determination includes all assets and liabilities, including home equity.

Aewcpa (talk|edits) said:

23 February 2009
I have a similar situation and agree on the home equity. My client also has large student loan debt. I assume that this is included in liabilities but winder if any one has any feedback on that?

Thanks, Ann

Riley2 (talk|edits) said:

23 February 2009
Yes, it is. All assets and liabilities of the taxpayer are included, including exempt assets and dischargeable and nondischargeable debt.

This means that assets that are exempt from creditor claims are included. Thus, defined benefit pension plans need to be valued using some sort of discounted present value analysis.

KHillis (talk|edits) said:

17 March 2011

This may be reaching for the stars with a 1099C but...Can you use the principal residency exclusion on the acquisition debt, and then take the house out of the equation and use insolvency on the equity debt for the house?

DaveFogel (talk|edits) said:

17 March 2011
I'm not sure I understand what you're trying to do, but perhaps two rules in Sec. 108 will help you. In addition, I don't know what you mean by "take the house out of the equation."

First, the principal residence exclusion takes precedence over the insolvency exclusion unless the taxpayer elects otherwise. See IRC §108(a)(2)(C).

Second, the ordering rule of IRC §108(h)(4) effectively treats the non-qualified debt (all debt other than acquisition debt) as having been discharged first.

So, I guess what you can do is to first see how much you can exclude under the principal residence exclusion, and then if there is any COD income remaining (there would be if there is non-qualified debt), use the insolvency exclusion. Under IRC §108(d)(3), the extent of a taxpayer's insolvency is determined on the basis of the taxpayer’s assets and liabilities immediately before the discharge.

KHillis (talk|edits) said:

19 March 2011
Dave, let me use my actual numbers and maybe that will clarify what I'm trying to get to.

Cancellation of Debt is 192,383. The home was refinanced in 2007 (outstanding purchase debt $338,327, new loan $350,000). and the only equity was for closing cost of $8655. + $1816.00 for property taxes and cash back $1,202 so a total equity out of 11,673. Using the insolvency rules and including the the home asset of 169,000 and mortgage of 345,032 they have $8,620 to the good (COD= 192,383 Assets $210,247 Liabilities 394,010). What I was asking was can they exclude the home as principal residence, then use the insolvency to exclude the $8,620? I hope this makes sense....(forget leaving the home out...that was an air moment, when I do that I come up to the same amount).

DaveFogel (talk|edits) said:

19 March 2011
This is very confusing, and your numbers don't make sense.

First, I don't know what you mean by "and the only equity was for closing cost of $8655. + $1816.00 for property taxes and cash back $1,202 so a total equity out of 11,673." If you are saying that you can add these amounts to acquisition debt, then I will have to disagree. For purposes of my analysis, I will assume that the amount of acquisition debt was $338,327 (the amount of the mortgage loan that was paid off in the refinance).

I will also assume that since the debt canceled was $192,393, and the FMV was $169,000, the total debt was the sum of these two numbers, $361,383. As a result, here's my analysis:

  • Of the $361,383 total debt, $338,327 is acquisition debt and $23,056 is nonacquisition debt.
  • Of the total $192,383 in COD income, the nonacquisition debt of $23,056 is treated under IRC §108(h)(4) as having been discharged first, leaving $169,327 of debt that qualifies for the IRC §108(a)(1)(E) (principal residence) exclusion.
  • The taxpayer was insolvent to the extent that the liabilities ($394,010) exceeded assets ($210,247), and therefore, the remaining debt of $23,056 qualifies for the IRC §108(a)(1)(B) (insolvency) exclusion.

Wkstaxprep (talk|edits) said:

19 March 2011
what is the home's fair market value? subtract from the fair market value the outstanding mortgage, I have a feeling this taxpayer is not insolvent.

claiming insolvency for cancellation of debt is intended for taxpayers who truly have no net worth, I wouldn't try snooping around for any loopholes, doesn't smell right. just my humble opinion.

KHillis (talk|edits) said:

19 March 2011
Thank you Dave, but the numbers are off a bit. What I meant to say was the equity taken out was $11,673, which I know is not acquisition debt. Therefore could I use the insolvency to exclude the amount they are insolvent before applying the principal residence and you answer that question. Thank you very much.

Kerry71 (talk|edits) said:

24 March 2011
I didn't think you could take both the qualified principal residence indebtedness and insolvency exclusion. It's one or the other. See excerpt from Pub 4681 below

"This exclusion (insolvency) does not apply to a cancellation of debt that occurs in a title 11 bankruptcy case. It also does not apply if the debt is qualified principal residence indebtedness (defined in this section under Qualified Principal Residence Indebtedness, later) unless you elect to apply the insolvency exclusion instead of the qualified principal residence indebtedness exclusion."

I have the same situation as KHIllis above and am trying to determine which exclusion is more beneficial unless I am totally missing something and both exclusions can be taken.

DaveFogel (talk|edits) said:

24 March 2011
As I stated above, and as the Pub. confirms, IRC §108(a)(2)(C) provides that the principal residence exclusion takes precedence over the insolvency exclusion unless the taxpayer elects otherwise. If the taxpayer qualifies for both exclusions, then the principal residence exclusion may be used to the extent that it eliminates the COD income, and if there is COD income remaining, the insolvency exclusion may be used, OR, the taxpayer may elect the insolvency exclusion over the principal residence exclusion. There's a lot of flexibility here, and one exclusion will usually be more beneficial than the other depending upon the taxpayer's "tax attributes" that must be reduced.
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