CLARIFYING MY OWN BS!!! - Posted by David Butler America’s Note Network
Posted by David Butler America’s Note Network on May 10, 2000 at 12:46:55:
Sometimes one responds to a post on the fly, particularly in a situation like this, where my primary intent was merely to pour a little water on the fire, and was a little careless in my response. Brad Crouch was kind of enough to point out I may have inadvertently poured gasoline on the fire instead - and he is right!
In reviewing the post, clearly I misspoke in the context of what I said, with regard to the matter of discharge of debt and tax liability accruing through “debt relief”. To eliminate any misunderstanding, it looks like I will have to put in the time I was avoiding in the first place… but what can you do??
In this instance, as is generally the case with a message board, the response was intended to be relatively generic. I am not inclined to go into a full bore clinic on taxation for this type of post… I am not qualified to do so even if I were so inclined.
In the context of providing the information I did provide, I relied on both the tax information I have worked with over the years in assisting clients through both foreclosure and short-sale negotiations to mitigate their losses… both from the loss of the property itself, and from the discharge of debt (debt relief) tax liabilities that arose in several of these transactions.
Obviously, I could not, and can not now, go through the wide range of possibilities that may be involved… residential foreclosure vs. business or investment property foreclosure; taxpayer status at the time
(gainfully employed and demonstrable assets; insolvent in fact, outside bankruptcy; in bankruptcy; defaulted Payor in a “subject to” or wraparound mortgage; etc.
In fact, from a technical perspective, the IRS calculates the taxable discharge of debt income as the difference between the “fair market value” of the property and the unpaid portion of the loan (including related costs), based on the literal interpretation of Treasury Reg. Section 1.166-6[b], which places a presumption of “fair market value” on the lender’s bid at foreclosure, or the winning bid amount… unless the tax payer provides clear and convincing evidence showing otherwise.
We know that lenders OFTEN place a quick sale value, or liquidation value on REO properties, which often is invariably less than fair market value. In addition, the lender may arbitrarily bid very low (particularly if he is in 1st position), which means the bid at
foreclosure may be much less than true fair market value. Generally, such decisions are a matter of internal policies and the current state
of the marketplace where the property is located - BUT NOT ALWAYS!
However, the taxpayer has the right to have taxes calculated with the fair market value of the property figure, and nothing less according to the advice I have been given - and seen published. In many cases,
proving the fair market value can reduce, or eliminate altogether, the tax on discharged indebtedness. (the courts have contradicted rulings on this issue over the years, and I HAVE NOT researched current case law). In certain circumstances (related to business or income property), capital losses can be applied to offset potential “debt relief” liabilities.
In order to generate income by discharge of indebtedness, the lender must actually discharge the taxpayer from liability, and of course notify the
IRS through the filing of the 1099-A and/or 1099-C. Of course, IRS may sniff it out on their own and come after you, BUT IN MY EXPERIENCE, it hasn’t happened. (I note that while speaking to a CPA yesterday regarding some Installment Sale tax issues, I brought up the matter of “debt relief” - this CPA stated he has handled four cases over the past five years, and in three of them, the lenders never issued either the 1099-A’s or 1099-C’s!!! - NO HARM, NO FOUL ;-))
As a PRACTICAL matter, in resolving a short-sale on a 2nd in 1993, I had a CPA suggest the adjusted basis defense as the strategy to use in this instance. (I saw the same strategy suggested in an excellent foreclosure guidance publication I purchased a year later). It became moot however… the lender never issued the required 1099-C!!!
A short time later, the situation did arise, in the course of settling a number of property defaults for a doctor client. I do note that we used several strategies in working with his CPA, the IRS, and the Bankruptcy judge, and his case did involve substantial back taxes as well from his business.
Be that as it may, I presented the adjusted basis argument on the few 1099-C’s the doctor did receive, and the IRS accepted the reasoning… and they never brought up the matter on the other properties where the 1099-C’s WERE NEVER ISSUED… even though they investigated these property records to make sure my client had no unreported income through illegally “milking the mortgage!” (he didn’t ;-))
In similar scenarios, MY REAL LIFE EXPERIENCE has been that the “debt relief” tax liability is NOT ALWAYS stringently enforced!
It is necessary to state that even CPA’s and attorneys have misexplained the rules from time to time… and I have had many instances where they failed to examine the PRACTICAL resolution of client problems. In forums such as these, it is important to recognize that often individual respondents are sharing PRACTICAL experience and opinion on a subject… usually for no pay! Shortcuts are necessary at times, particular with complex issues such as what is left unsaid, in both the origninal posts, and in the responses.
It would seem to go without saying that in the case of most all of the information passing back and forth on such boards, the standard caveat with regard to legal questions and/or tax matters is implied (i.e. in this instance "a person should seek the expert advice of a knowledgeable tax consultant familiar with the EXACT details of a particular situation, before implementing any strategies… etc.).
To operate successfully in this industry, it is critical that one learn to research their issues on the facts and merits of their situation, and think for themselves as well.
In any event… I do smoke, but I do not chew… and I don’t go with the girls that do!!!
David P. Butler Vice President, Broker Relations