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Discussion:Contested Liability Doctrine

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Discussion Forum Index --> Advanced Tax Questions --> Contested Liability Doctrine


Discussion Forum Index --> Tax Questions --> Contested Liability Doctrine

GerriC (talk|edits) said:

15 March 2014
Has anyone ever backed out COD income based on the Contested Liability Doctrine. My client's attorney drew up briefs regarding several debts and asserting that the do not constituted COD income based on this doctrine. However, all the briefs also have the Circular 230 disclaimer on them saying that nothing constitutes tax advice. I'm not very comfortable with this and wanted to see if anyone has any experience with it.

Nilodop (talk|edits) said:

15 March 2014
This is a good place to start. http://law.justia.com/cases/federal/appellate-courts/F2/916/110/208085/

What are the facts surrounding the debt in your client's case?

Ckenefick (talk|edits) said:

15 March 2014
Yeah, what are the facts?

GerriC (talk|edits) said:

15 March 2014
I think I need to go back to the taxpayer to get some more specifics, but here's what I get from the briefs:

Debt #1: Credit card debt. Credit card company filed suit in Texas for repayment. Taxpayer disputed the debt. Credit card company filed a notice of nonsuit and dismissed its claims against the taxpayer.

Debt #2: Credit card debt. Taxpayer formally disputed debt with the credit card company through a law firm (which also wrote the briefs I'm looking at). However, neither party ever filed suit. The credit card company finally decided to write off the debt.

The briefs argue that both of these fall under the contested liability doctrine. I think there's a strong argument on the first one since they went to court and the credit card company actually dismissed its claims. But I'm not sure the second isn't a bit more of a stretch.

Also, if its credit card debt don't I need to look to see if he has any property associated with that debt?

Nilodop (talk|edits) said:

15 March 2014
There is a difference between a creditor's forgiving a debt and a creditor's acknowledging (e.g., by agreeing to take $x, as in the linked case) that the debtor's liability was less than $x.

What was the nature of the purchases charged to the credit cards and on what basis were the balances disputed?

Ckenefick (talk|edits) said:

15 March 2014
Also, if its credit card debt don't I need to look to see if he has any property associated with that debt?

No, this isn't a foreclosure. If you charge your vacation to a credit card and don't pay the credit card bill, and the cc company forgives it, you have COD income. It's a recourse debt, for sure. There's a clear accession to wealth. It's treated as if: The cc company loaned cash of $x to guy, creating a debt, and guy took said cash and bought a vacation. When you don't pay a debt, you have COD.

I would think that to contest this liability, or part of it, the circumstances would be narrow. As in, I didn't make those charges. Or, I didn't authorize those charges.

A guy like this with two credit card liabilities, which were big enough to involve a law firm, leads me to believe he's a spendthrift and SWHM (Shitty With His Money)...absent fraudulent charges, etc.

It also seems that if charges were fraudulent, why does this take so long to get to where it's at? Leads me to believe that guy is just now addressing it, but if fraudulent charges were involved, most people tackle those immediately.

Of course, we'd have the accrued interest to deal with.

GerriC (talk|edits) said:

15 March 2014
As an addendum, I just found out that most of the debt relates to furniture in his home and loans used to purchase a business. I'm still trying to find out what the basis for disputing the debt was, but I'm beginning to think that this was just a shady lawyer selling him a bill of goods. If there was no fraud and he got "stuff" for the debt then how do you dispute other than as Ckenefick says he's SWHM.

Nilodop (talk|edits) said:

15 March 2014
SWHM = Single White Hopeful Male.

Ckenefick (talk|edits) said:

15 March 2014
Supermarkets often settle bogus slip-and-fall claims knowing that if they don't settle, they spend more $ fighting it. Just b/c it was settled doesn't mean the claim was legit.

Nilodop (talk|edits) said:

15 March 2014
Indeed. As this quote from the linked case says, "Under the contested liability doctrine, if a taxpayer, in good faith, disputed the amount of a debt, a subsequent settlement of the dispute would be treated as the amount of debt cognizable for tax purposes."

Ckenefick (talk|edits) said:

15 March 2014
Let's say he makes a claim for fraudulent charges b/c his kid got a hold of his credit card and bought a dinette set for the Kitchen. Let's say cc Company agrees to forgive the debt. Guy keeps the dinette set. Claim was made in good faith, no?

Nilodop (talk|edits) said:

15 March 2014
Assuming the facts you state and that the dinette set (haven't seen that term for a very long time) remains in dad's possession, as opposed to being reclaimed somehow by the bank or seller, he has income. But not COD income. Income from accession to wealth by fraud or "from whatever source derived". I think the two are separate - whether there was debt (there wasn't because credit card company forgave it, although I believe you mean the credit card company agreed that there was no legal debt, because if you really mean they forgave it but they did not have to do so, it's a different kettle of fish), which debt was disputed in good faith and settled, so that the tax result is no COD income. Then you look at whether there was an accretion to wealth. Also, whose wealth was accreted.

The other kettle of fish (if there was real debt but cc company forgave it even though it was real [valid]), then there was COD and , perhaps, a reduced tax basis in the dinette set.

GerriC (talk|edits) said:

16 March 2014
The taxpayer just informed me that there was never a question of fraud. He spent the money. The basis of the lawsuit was that "(a)fter I bought the gym the passes a law that allowed credit card companies to increase payments and u just fell behind." I'm not sure if he means that he fell behind because the payments increased or payments increased because he fell behind. Either way, he has admitted to me that he got assets that he kept as a result of the debt and that there was no fraud involved. That tells me that the debt was not contested in good faith. Even worse, he says he should have just paid it, which implies he could have if he really wanted to. He also said the statute of limitations was about to run on one of the debts, which I suspect is the reason the first debt lawsuit was dropped. Perhaps he has a leg to stand on in all this, but in light of what he's admitted to me I can't get past the fact that I do not believe the debt was contested in good faith. I'm going to tell him that if he wants me to prepare the return then it is going to show all of the COD income with no offset for disputed debt.

Thank you all for the help. Having had to deal with a few too many uncollectible accounts I'm rather disgusted by people who can pay their bills and chose not to do so.

Nilodop (talk|edits) said:

16 March 2014
OK, forget the disputed bit. So he has COD income. Can he exclude some or all under Sec 108? Maybe QRPI?

Ckenefick (talk|edits) said:

16 March 2014
It doesn't even sound like he's disputing the debt.

GerriC (talk|edits) said:

16 March 2014
He's the sole owner of a small gym and I know he has enough cash to pay the tax due in full if he has to. (He told me in writing he could pay it off if he had to, but prefers an installment agreement). Total COD was $35K. Total tax due is $12,700. He nets $40 - $45K a year off the business, so I can't see there's any way he would be insolvent for purposes of Sec. 108.

What is QRPI?

Nilodop (talk|edits) said:

16 March 2014
I left out the B. Qualified Real Property Business Indebtedness. Unlikely to apply in your facts.

Ckenefick (talk|edits) said:

16 March 2014
I don't think there's any real property involved.

Nilodop (talk|edits) said:

16 March 2014
I don't either, unless the "business", also known as the "gym", involves real property. As an addendum, I just found out that most of the debt relates to furniture in his home and loans used to purchase a business. and The basis of the lawsuit was that "(a)fter I bought the gym...

GerriC (talk|edits) said:

17 March 2014
That's correct. There was no real estate involved. The property where the gym is located is rented.

I presented my analysis to the taxpayer and he has agreed that he will report the income and pay the tax.

Thanks again for all the help.

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