Discussion:Hard Times

From TaxAlmanac, A Free Online Resource for Tax Professionals
Note: You are using this website at your own risk, subject to our Disclaimer and Website Use and Contribution Terms.

From TaxAlmanac

Jump to: navigation, search

Discussion Forum Index --> Advanced Tax Questions --> Hard Times


Discussion Forum Index --> Tax Questions --> Hard Times

Ckenefick (talk|edits) said:

21 April 2014
A while back, taxpayer fell on hard times and was unable to pay a bunch of her liabilities, including some personal credit card debt. She stopped making payments to the credit card company, and, eventually, the credit card company issued a 1099-C (for tax year 2009). The woman never negotiated with the credit card company, hired an attorney, etc. In any event, she went ahead and reported the COD amount on her 2009 self-prepared 1040 and paid tax on it, with what little money she had.

At the end of 2013, she got a call from a collection agency that was trying to collect on the old credit card debt. Without consulting an attorney, or anyone else, she went ahead and paid it, in 2013. (She received an inheritance in mid-2013 and that's how she came up with the money to pay it).

The woman extended her 2013 return and was recently referred to me by a client. I met with her this morning and that's how I learned of all of this stuff.

So, I'm wondering how to handle this repayment on her 2013 Form 1040. Please advise.

P.S. The woman is a very nice woman and I probably made a mistake when I called her "Stupid" during our meeting earlier today. So, if there's any way to make this whole thing work out for her - wholly, or partially, or in any way - so Ck looks stupid, I'd be willing to bite the bullet on this one.

Kevinh5 (talk|edits) said:

21 April 2014
claim of right?

Ckenefick (talk|edits) said:

21 April 2014
Well, that's a good point. 1341(a)(1) says this:

1341(a)General rule.

If—

1341(a)(1) an item was included in gross income for a prior taxable year (or years) because it appeared that the taxpayer had an unrestricted right to such item;

Quite frankly, with respect to this specific provision, I'm not sure how we'd analyze the Income in this case, when it is COD Income. Any thoughts?

Nilodop (talk|edits) said:

21 April 2014
Doesn't sound unrestricted under Reg. 1.1341-1(a)(2) For the purpose of this section income included under a claim of right means an item included in gross income because it appeared from all the facts available in the year of inclusion that the taxpayer had an unrestricted right to such item, and restoration to another means a restoration resulting because it was established after the close of such prior taxable year (or years) that the taxpayer did not have an unrestricted right to such item (or portion thereof).

But we know you, chum. More hints so we see where you found your face-saving (ass-saving?) answer.

Ckenefick (talk|edits) said:

21 April 2014
Not sure if I'll be able to save face in this one.

Obviously, when the income is of the "COD" variety, the "event" giving rise to the income is the forgiveness/cancellation. This differs, at least in my mind, from other forms of income. Those other forms of income involve the element of receiving, or constructively receiving, the actual income. So, it's kinda one event/transaction, in most cases and is also an event that the taxpayer has some knowledge of (usually). COD doesn't work that way. What we are taxed on is the "income," formerly known as "debt" that wasn't taxable when we got it...but it might be now, because the obligation to repay has been extinguished. Basically, the debt that was supposed to be repaid has been transformed into income.

Given that very long aside, why do you think the "income" (i.e. the COD) is not (or was not) unrestricted? Are you harking back to day the non-taxable loan was made?

Nilodop (talk|edits) said:

21 April 2014
Then again, why does it matter all that much. Claim of right would just provide for a favorable tax calculation. Without 1341, isn't the repayment in 2013 still a deduction in 2013? Or is your next point that she does not have enough income to use it?

Ckenefick (talk|edits) said:

22 April 2014
Without 1341, isn't the repayment in 2013 still a deduction in 2013?

I don't know. Is it?

Nilodop (talk|edits) said:

22 April 2014
Are you harking back … ? How would I know? I've never consciously harked back to anything. No one taught me how.

But anyway, here is my reasoning. From your OP, taxpayer (on occasion known as "Stupid") got a Form 1099C, but had no other reason to believe she had an unrestricted right to the money, property, or services she received earlier (as you say, once known as debt). My reading of your description is that she just assumed that she has to pay tax on it because she got a form that says so. And that ultimate authority (well, other than the Supremes) seems to feel that way too. http://www.irs.gov/irm/part21/irm_21-006-006r.html. It says "The regulations under IRC Section 6050P generally, require that Form 1099-C be issued to a debtor if one of eight events occurs. One of those events is: if for at least a 36 month period, no payments are made toward the debt, then the creditor must issue a Form 1099-C, solely for reporting requirements, whether or not an actual discharge of indebtedness has occurred.

In some cases, the taxpayer includes the amount reported on the Form 1099-C as income on their income tax return, not understanding the fact that the creditor may still pursue collection activity.

If the creditor resumes collection activity, e.g., garnishment of the taxpayer's earnings, and the debt is paid, the taxpayer may be entitled to file an amended return to exclude the income for the year it was reported. If an amended return is filed, the amount of debt discharge income should be treated as a reduction to the income reported for the year for which the Form 1099-C is received and not as a Claim of Right adjustment for the year when the debt is repaid."

And it also says: "If, as of the time of the repayment, the year for which the cancellation of debt income is reported is closed for assessment, taxpayers may claim deductions if otherwise allowable for the tax years. A taxpayer using the cash accounting method may claim a deduction for the repayment only for the tax year in which it was made.

If Cash accounting method is used Then A taxpayer may claim a deduction only for the tax year in which the repayment was made."

And then that damned IRM says this, under Claim of Right: "If taxpayer repays money that was included in gross income in a previous tax year because at the time it appeared that the taxpayer had an unrestricted right to the income (Claim of Right, IRC Section 1341), and the repayment is deductible (for example as a business expense or a IRC Section 165 loss), then the taxpayer may (1) deduct all or part of the amount for the year in which it is repaid or (2) take a refundable credit against tax for that year. If the repayment is not deductible, then IRC Section 1341 is not available. " I have to ponder that statement. I'm pondering it in connection with I don't know. Is it? and I am starting to conclude that the repayment is not eligible for 1341 treatment because it is not "otherwise allowable" for 2013, because it is not a business expense or other deductible item. (Unless all or part of it is and you have not said so). The relevant reg. says " After the tax previously determined has been ascertained, a recomputation must then be made to determine the decrease in tax, if any, resulting from the exclusion from gross income of all or that portion of the income included under a claim of right to which the deduction otherwise allowable in the taxable year is attributable."

Ckenefick (talk|edits) said:

22 April 2014
(Unless all or part of it is and you have not said so).

You are correct. The debt in question was personal credit card debt. Assume all credit card charges were personal in nature.

Nilodop (talk|edits) said:

22 April 2014
Assume all credit card charges were personal in nature. I did.

Ckenefick (talk|edits) said:

22 April 2014
I know, was just clarifying that your assumption was accurate.

So, what's the deal - is there any deduction here we can salvage...at all?

Nilodop (talk|edits) said:

22 April 2014
The events:

Debt (personal credit card) was behind and unpaid in 2009.

Bank did not discharge it, but issued 1099C as required by Reg 1.6050P-1(b)(2)(iv).

She paid tax on it in 2009. (OP does not say there was any applicable 108 exclusion).

Bank pursued the debt.

She paid the debt voluntarily in 2013. Would be the same answer if bank forced it through a suit.

She can file a refund claim for 2009, if it is an open year, because the repayment in 2013 is evidence that the original amount should not have been included in income.

She cannot avail herself of 1341 because in 2009 it did not appear that she had an unrestricted right to the income. Also, 1341 requires that the repayment would otherwise have been deductible. It wouldn't have. It was personal.

So, according to Nilodop and SCA 200235030, no, there does not appear to be "...any deduction here we can salvage...at all. Short of a 2009 refund claim).

Unless, perhaps, unpaid interest enters the picture here. Does it? If so, I need to think more about it.

Ckenefick (talk|edits) said:

23 April 2014
Ok, Lenny...or should I say, "Mr. SCA."

This scenario reminds a bit of an accrual basis accounting firm that sends Lenny an invoice for $1,000 in Year1. The accounting firm never receives payment from Lenny, so the President and CEO of the Accounting Firm, Kevin6, calls Lenny in Year2 asking about payment. Lenny says, "I have no idea who you are. You guys never prepared my return. Some jackass in Charlotte, NC prepares my return." Kevin6 checks his records, and lo and behold, Lenny is right. "I'm sorry, Lenny. My mistake. My numbers are all screwed up today. By the way, my name is Kevin5."

It does seem, subject to Coddington's opinion, that the proper remedy is not to write-off the receivable as a bad debt, because it was a bogus receivable to begin with. Instead, the proper course would be to amend the Accounting Firm's return.

This line of thinking makes me think of RR 2003-10.

http://www.irs.gov/pub/irs-drop/rr-03-10.pdf

But almost as an aside, what does it tells us about the 1099-C reporting requirements? In all cases, do we need to undertake an investigation as to the veracity of the forgiveness/cancellation? What if we find that the creditor has X number of years to pursue the claim?

Nilodop (talk|edits) said:

23 April 2014
Yes, I believe it does tell us something about the 1099C. Maybe "undertake an investigation" slightly overstates the matter, in that all that is needed is a question or two, but I gather the issuance of the 1099C (required of the bank by the reg.) occasionally occurs when the debt has not been canceled/forgiven/discharged. See my excerpt above, from the penultimate authority (IRM).

Any thoughts on my brief reference to unpaid interest?

Ckenefick (talk|edits) said:

23 April 2014
Any thoughts on my brief reference to unpaid interest?

What exactly are the details surrounding that?

Maybe "undertake an investigation" slightly overstates the matter

If the SCA stands for the proposition that a 1099-C might only evidence a tax reporting requirement, then how in the world is the taxpayer to know if (1) the issuance of the 1099-C coincides with an actual write-off or (2) if the write-off only happens when the creditor's collection statute passes or (3) if the write-off happens somewhere in between? Or, better yet, what if a 1099-C is never issued at all?

To get it right, doesn't this actually involve MORE THAN an investigation? Doesn't it involve having to make assumptions and maybe even calling the creditor to ascertain the creditor's current and future intentions (and is really the taxpayer's duty to do that)? Doesn't it involve having to retain an attorney to determine when the creditor's collection statute ends? (And even with this bit of information, it still doesn't tell the whole story).

Couldn't this mess be more easily solved if, in ALL cases, 1099-C reporting was required only when the creditor ACTUALLY charges the debt off of its books, be it through an internal decision by the creditor [despite past, present and future collection activity] or by operation of law? Isn't this what Cozzi is after, the case the IRS cited in the SCA?

Even though the Reg might be well-intended, doesn't it just cause confusion?

Nilodop (talk|edits) said:

23 April 2014
Even though the Reg might be well-intended, doesn't it just cause confusion? Yes, but it's a reg. Banks must issue the 1099C, unless and until it's changed.

Ckenefick (talk|edits) said:

23 April 2014
http://www.aicpa.org/Press/PressReleases/2013/DownloadableDocuments/AICPA-Letter-to-IRS-on-Cancellation-of-Indebtedness.pdf

Nilodop (talk|edits) said:

23 April 2014
Nice letter. What are the odds?

Harry Boscoe (talk|edits) said:

23 April 2014
Check the date on the letter...

Nilodop (talk|edits) said:

23 April 2014
I did earlier.

Nilodop (talk|edits) said:

24 April 2014
Any thoughts on my brief reference to unpaid interest?

What exactly are the details surrounding that?

Well, it just bothered me that the credit card interest, personal interest mind you, non-deductible, creates taxable income when forgiven or discharged. But that thinking led me nowhere. I first thought about Sec 111 tax-benefit rule, but that seems n/a because it relates to "deductions" claimed in a prior year that produced no tax benefit. If the credit card debt and the related interest (presumably added to principal) were discharged, which is different from your OP but interesting to explore, it was a discharge of debt that was all personal, and that never created a tax benefit.

That got me thinking about what a "recovery" is under 111, i.e., would a discharge be a recovery? So I "harked back" to the 1.111-1 reg. and there, lo and behold, was this: "(2) Definition of “recovery”. Recoveries result from the receipt of amounts in respect of the previously deducted or credited section 111 items, such as from the collection or sale of a bad debt, refund or credit of taxes paid, or cancellation of taxes accrued." So, cancellation can be a recovery. So a personal credit card debt that is discharged/canceled has been "recovered". Trouble is, it was not a deductible item in the first place. In fact, even if the credit card purchases or borrowings were for deductible items, i.e., real estate taxes, charitable gifts, business expenses, they are still treated as borrowings from the credit card bank and not deductions.

To join in on this discussion, you must first log in.
Personal tools