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Forgiveness of loan to charity - cash or non cash?

Technical topics regarding tax preparation.
#1
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Would forgiving a bonafide loan to a charity be considered cash or non-cash? Unfortunately, I think it is non-cash. Any support for otherwise?

Cash contributions are contributions you give to a qualified organization which you can deduct from your earned income if you are itemizing your deductions. Cash contributions obviously include cash payments, but also includes payments by check or credit card.
 

#2
HowardS  
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Doesn't a cash loan that isn't repaid become a cash donation?
I suffer from depreciation.
 

#3
Nilodop  
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That's what OP is asking. Is it a cash contribution or a contribution of a note receivable?
 

#4
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Right, wouldn't the client be giving the charity their note back and not a transfer of cash in the current year? The transfer of cash happened X years ago.

I'm guessing I'm asking more for a reporting perspective... Would we report it simple as a cash contribution on Schedule A or would we have to include it on Form 8283?
 

#5
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Client is cancelling charity's note. Client is not donating a Note Receiveable. I vote for cash contribution.
 

#6
HowardS  
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Back in the day I would have debited notes payable, credited contribution and sent the good man a receipt for the amount of debt forgiven, treating it as a cash donation. I have a feeling Len is about to teach a class. :shock:
I suffer from depreciation.
 

#7
Nilodop  
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Interesting theory. So, on that theory, and assuming there was really a note that the donor originally expected to collect, or at least had that right along with the right to cancel should he so desire (i.e., it was not intended as a gift until he forgave it), and despite that the cash payment happened X years ago, so the charity would be hard pressed to sign an acknowledgment this year for cash received, and further assuming that the charity's financial condition had deteriorated such that full collectibility was doubtful and therefore the note's market value had declined, he'd be OK taking the contribution deduction as cash in the full amount of the original loan, not as property at its (reduced) value, all of which would give him a contributions deduction rather than a personal bad debt, all that said, is there some authority for the position?
 

#8
sjrcpa  
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Class is in session.
 

#9
Nilodop  
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How did HowardS know I was typing that?
 

#10
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Yes. Treat it as charitable contribution year they forgive the loan. Make the C3 write a note with proper documentation in case the 1040 ever gets questioned.

This is interesting read too:
http://www.naepcjournal.org/journal/issue12c.pdf

edited: by note, I meant a recognition of donation.
 

#11
Nilodop  
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This is interesting read too:
Yes. Especially the discussion of
Upfront Gift If Intent to Forgive Loan?
Revenue Ruling 77-299
 

#12
HowardS  
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Tax Topic 453:
Nonbusiness Bad Debts - All other bad debts are nonbusiness. Nonbusiness bad debts must be totally worthless to be deductible. You can't deduct a partially worthless nonbusiness bad debt.

A debt becomes worthless when the surrounding facts and circumstances indicate there's no reasonable expectation that the debt will be repaid. To show that a debt is worthless, you must establish that you've taken reasonable steps to collect the debt.

No indication in OP that this is a non-business bad debt and could not be collected.

he'd be OK taking the contribution deduction as cash in the full amount of the original loan

No, he's taking a deduction for the balance of the loan, not the original amount.

No indication in OP that there was an original intent to eventually forgive the loan.
I suffer from depreciation.
 

#13
Nilodop  
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No, he's taking a deduction for the balance of the loan, not the original amount.
. No indication that any principal has been paid.

Where do you stand on whether it's a cash or property contribution, which is OP's question?
 

#14
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isn't this cash or cash equivalent at FMV. I don't see how this could be classified as any property.

May I ask why does it matter on a 1040 standpoint? wouldn't he be able to claim the deduction at FMV regardless if its property or cash?
 

#15
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j3cpa wrote:isn't this cash or cash equivalent at FMV. I don't see how this could be classified as any property.

May I ask why does it matter on a 1040 standpoint? wouldn't he be able to claim the deduction at FMV regardless if its property or cash?


The note has not gone bad, the client is forgiving it out of the goodness of his heart.

Cash contributions are 60% AGI limited vs 50% for non-cash. It is also reported on a different line of the return and I like to get my lines correct. :-)
 

#16
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Cash contributions are 60% AGI limited vs 50% for non-cash. It is also reported on a different line of the return and I like to get my lines correct.


ahhh....... I did not know that. I'm learning about income tax everyday here.
 

#17
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I vote cash. No cites that I could find one way or the other. Charity has completed gift and constructive receipt of the cash that was previously lent(loaned?) on the date the debt was forgiven.
I suffer from depreciation.
 

#18
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Charity had actual receipt of cash years ago, so how is it constructive receipt now?

Where we are not giving enough attention is what I said (in part) in that long sentence in #7. If forgiveness was always intended, or maybe even contractually agreed upon, IRS would argue the note was a nullity and the contribution was made when the cash "loan" was made. If it was a real loan, enforceable and intended to be collected, then the forgiveness, out of donative intent at the time of forgiveness, was a gift deductible when forgiven, but not as a cash gift. Sure, they could go through the fictional steps of writing a check from the charity to the "lender" and then having him write a check to the charity, but the substance would likely be treating it as a forgiveness, a property gift not a cash gift.
 

#19
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The taxpayer is not contributing a note receivable or "a forgiveness" to the charity. Rather, he's canceling a note receivable. In so doing, he is giving up his claim on a certain amount of cash that the charity has or had at one point. Full ownership of the cash transfers to the charity as a result. It's a cash donation.
 

#20
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It's clear all we have is opinions. Any citations one way or the other?
I suffer from depreciation.
 

#21
Nilodop  
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I have not found authorities where the facts involved a charity. But here are some where the facts involve gifts for gift tax purposes. The tax principles are the same.

PLR 200603002
In general, if an individual makes a loan and, as part of a prearranged plan, intends to forgive or not collect on the note, the note will not be considered valuable consideration and the donor will have made a gift at the time of the loan to the full extent of the loan. See Rev. Rul. 77-299, 1977-2 C.B. 343; Maxwell v. Commissioner , 3 F.3d 591 (2 nd Cir. 1993); Deal v. Commissioner , 29 T.C. 730 (1958).


RR 77-299
Thus, in the instant case, whether the transfer of property was a sale or a gift depends upon whether, as part of a prearranged plan, G intended to for­give the notes that were received when G transferred the property.
. ***
In the instant case, the facts clearly indicate that G, as part of a prear­ranged plan, intended to forgive the notes that were received in return for the transfer of G's land. Therefore, the transaction was merely a disguised gift rather than a bona fide sale.


RR 81-264
If an individual makes a loan and as part of a prearranged plan intends to forgive or not collect on the note, the note will not be considered valuable consideration and the promisee will have made a gift at the time of the loan to the full extent of the loan. Rev. Rul. 77-299, 1977-2 C.B. 343. If there was no such prearranged plan, but the promisee later forgives the debt, the promisee will have made a gift at the time of the forgiveness. The amount of the gift will equal the principal amount forgiven and the interest ac­crued to the date of the forgiveness. Section 25.2511-1 of the Gift Tax Regulations and Republic Petroleum Corp. v. United States, 397 F. Supp. 900 (E.D. La. 1975).


RR 81-286
For gift tax purposes, if a cash loan is made in a transaction that is not bona fide, at arm's length, and free from donative intent in exchange for a promissory note payable in a certain term, the promisee makes a completed gift in cash in the amount (if any) by which the amount of the loan exceeds the value of the promissory note on the date of the exchange. Section 2512(b) of the Code. This excess amount is the value of the right to use the money loaned. The right to use property, in­cluding money, is itself an interest in property, and the transfer of the inter­est is a gift for gift tax purposes. Rev. Rul. 73-61, 1973-1 C.B. 408. See Es­ tate of Berkman v. Commissioner, T.C.M. 1979-46.


RR 73-61
The tax in the instant case would be imposed on the value of the right to use the money. Such value is usually stated in terms of interest or some other equivalent in money or money's worth. The rate of interest that would rep­resent full and adequate consideration may vary, depending upon the actual circumstances pertaining to the trans­action. See Gertrude H. Blackburn v. Commissioner, 20 T.C. 204, (1953), which held that a taxable gift was made when a taxpayer sold a building to her children and received a note with interest payable at less than the usual local rate of interest on such transactions.
Last edited by Nilodop on 4-Oct-2019 4:21pm, edited 1 time in total.
 

#22
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Hasn't the OP stated the note was a bonafide loan and there was no intent when executed to later forgive it? Your cites all deal with prearranged forgiveness and/or below market interest.
I suffer from depreciation.
 

#23
Chay  
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No, the third citation deals with bona fide loans:

If there was no such prearranged plan, but the promisee later forgives the debt, the promisee will have made a gift at the time of the forgiveness. The amount of the gift will equal the principal amount forgiven and the interest ac­crued to the date of the forgiveness.

I agree with Nilodop that the same principles that apply to gift taxes will also apply to charitable donations. As such, I think the following is conclusive:

The right to use property, in­cluding money, is itself an interest in property, and the transfer of the inter­est is a gift for gift tax purposes.

Based on this, the right to use cash is itself an interest in cash. Having an interest in something means owning it or a part of it. Giving up that interest to someone else means making a gift of the underlying item, in this case cash. The result is that the gift of the creditor's interest in loan proceeds is always valued at the face value of the note, just like it says in the third citation. There are no valuation discounts for uncollectibility, nor any requirements to get an appraisal.
 

#24
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Right...missed the second part of the third cite supporting a cash gift at the time the note is forgiven. Cash it is. Is class over? ;)
I suffer from depreciation.
 

#25
Nilodop  
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Assume:
The note was a bonafide loan and there was no intent, when executed, to later forgive it;
Unfavorable changes in financial condition of the charity occurred over the years from the date of the loan to the date it was forgiven;
As a result, the FMV of the note is 50% of its face value at date of execution;
Favorable changes in financial condition of the lender/then donor occurred over the years from the date of the loan to the date it was forgiven;
As a result the borrower/charity will have difficulty in repaying the loan, and the lender/then donor is willing to and can afford to, and does forgive the loan.

Result
Chay, and apparently others, believe the result is that the gift of the creditor's interest in loan proceeds is always valued at the face value of the note, just like it says in the third citation. There are no valuation discounts for uncollectibility, nor any requirements to get an appraisal.. I read the gift tax regulation cited and forced myself to read the entire opinion in Republic and find no indication that the gift of the creditor's interest in loan proceeds is always valued at the face value of the note, just like it says in the third citation. If I missed it, please point it out to me. The citation does not say "always". Nor did I find in the reg. or the case any support that giving up the right to collect on the note is a gift of cash because cash is the underlying property. If I missed it, please point it out to me. To me, the note itself is the property.

So I'm not convinced but I can be convinced with some authorities.
 

#26
Nilodop  
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I see there is an ongoing discussion of what is cash. viewtopic.php?f=8&t=16184&p=143150#p143150
 

#27
Nilodop  
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Per Chay (in part quoting others) in the lower half of #23:
I agree with Nilodop that the same principles that apply to gift taxes will also apply to charitable donations. As such, I think the following is conclusive:

The right to use property, in­cluding money, is itself an interest in property, and the transfer of the inter­est is a gift for gift tax purposes.

Based on this, the right to use cash is itself an interest in cash. Having an interest in something means owning it or a part of it. Giving up that interest to someone else means making a gift of the underlying item, in this case cash. The result is that the gift of the creditor's interest in loan proceeds is always valued at the face value of the note, just like it says in the third citation. There are no valuation discounts for uncollectibility, nor any requirements to get an appraisal.


But per Pub 526:
Partial Interest in Property

Generally, you can't deduct a charitable contribution of less than your entire interest in property.

Right to use property. A contribution of the right to use property is a contribution of less than your entire interest in that property and isn't deductible.
Example 1.

You own a 10-story office building and donate rent-free use of the top floor to a charitable organization. Because you still own the building, you have contributed a partial interest in the property and can't take a deduction for the contribution.


You see, the Pub is addressing a charity specifically, and is separate from the gift tax rule. For those who prefer law to Pubs, the same rule is here in section 170(f)(3)(A).
(3) Denial of deduction in case of certain contributions of partial interests in property
(A) In general
In the case of a contribution (not made by a transfer in trust) of an interest in property which consists of less than the taxpayer’s entire interest in such property, a deduction shall be allowed under this section only to the extent that the value of the interest contributed would be allowable as a deduction under this section if such interest had been transferred in trust. For purposes of this subparagraph, a contribution by a taxpayer of the right to use property shall be treated as a contribution of less than the taxpayer’s entire interest in such property.


But in our facts, we have assumed (perhaps implicitly) that the loan included paying an adequate interest payment.

What may be sending Chay off track a bit is that the promissory note does not simply evidence the right to use money; it also requires payment for that right, namely, interest at an adequate rate. When the lender forgives the loan, they (using "they" as the new dictionary says it's OK to do) are not giving up the cash; they don't own the cash; the charity does. They are giving up the right to collect the amount loaned (and the as yet unearned interest), a property right. And as is axiomatic, a property right that is donated to a charity needs to be valued, documented, etc., and its value, as illustrated in #25 is not always its face value (or its unpaid balance).
 

#28
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Nilodop wrote:A contribution of the right to use property is a contribution of less than your entire interest in that property and isn't deductible.

A quick glance at the examples that follow this guideline shows that it doesn't apply to our facts. The examples involve allowing an organization to use real estate tax-free. The analogy in our facts would be making an interest-free loan, not canceling a loan originally made at arm's length.

When the lender forgives the loan, they (using "they" as the new dictionary says it's OK to do) are not giving up the cash; they don't own the cash; the charity does.

If the charity really owns the cash, then why is it referred to as a "borrower" in common parlance? You wouldn't say a borrower owns the item borrowed in the context of tangible property such as office equipment. Canceling an obligation of the charity to return office equipment would count as a donation of the office equipment. Why wouldn't the same hold true for cash that a charity has borrowed?

To be sure, "common parlance" isn't controlling for income tax purposes. But when we examine the transaction from a technical standpoint, we find the treatment is in line with the way I've characterized it. Income is recognized at the time the indebtedness is forgiven because until then, the borrower has not acceded to ownership of any asset. Cancellation of debt income is measured at the amount of principal outstanding because the property acquired is cash and not anything else. Anything other than cash would instead be measured at a fair market value expressed in terms of cash.
 

#29
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The examples involve allowing an organization to use real estate tax-free. The analogy in our facts would be making an interest-free loan, not canceling a loan originally made at arm's length. Yes, of course. I know that. It's why I said But in our facts, we have assumed (perhaps implicitly) that the loan included paying an adequate interest payment.. I was following from the Chay comment Based on this, the right to use cash is itself an interest in cash..

If the charity really owns the cash, then why is it referred to as a "borrower" in common parlance? . Reasonable question. Because absent specific legal covenants that restrict its use of the cash, it is free to do with it what it chooses. The lender can't spend it, but the borrower can. The lender has a promissory note receivable, entitling him to a fee for the use of the cash (interest) and the right to be paid cash at a future date. If the lender still owned the cash, how would the borrower be able to spend it? The borrower has a promissory note payable, which simply means he has to pay interest and, at maturity, pay cash in the amount of the principal. The lender has rights; the borrower has obligations.

Chay said above that the lender is canceling a note receivable. In so doing, he is giving up his claim on a certain amount of cash that the charity has or had at one point. Full ownership of the cash transfers to the charity as a result. It's a cash donation.. Not so. The lender has no claim on the cash, or on anything bought with the cash. As stated, the lender owns the cash the moment it is transferred to him.

Please, please, don't raise the argument that cash is fungible. It's not a relevant argument here.
 

#30
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Nilodop wrote:Because absent specific legal covenants that restrict its use of the cash, it is free to do with it what it chooses. The lender can't spend it, but the borrower can. The lender has a promissory note receivable, entitling him to a fee for the use of the cash (interest) and the right to be paid cash at a future date. If the lender still owned the cash, how would the borrower be able to spend it?

You haven't answered my question. I want to know why we don't treat the borrower as having acquired ownership of the cash, whether in common parlance or from a technical income tax standpoint. The fact that they can do whatever they wish with the cash doesn't explain why we don't treat them as owning the cash, it merely adds more weight to the question.

I believe the answer to my question is that cash is fungible, and you seem to have considered the same conclusion before dismissing it as irrelevant. But since you haven't offered any alternative explanations, I think you're going to have to explain why the fungible argument doesn't work.

After you're done explaining that, I'd like to know why it is that while a third party paying off the organization's liabilities would count as a cash contribution in the amount of the liability, the actual creditor cannot be afforded identical treatment for an identical result. Why would a taxpayer be able to claim a deduction for paying liabilities of a charitable organization, even when the organization has no control over what liabilities are paid, in all cases except when the liability is payable to the taxpayer himself?
 

#31
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I want to know why we don't treat the borrower as having acquired ownership of the cash, whether in common parlance or from a technical income tax standpoint.. We do.

I think you're going to have to explain why the fungible argument doesn't work.
. The cash we borrow was "paid for" by issuance of a note, just like when the government "sells" Treasury notes, bills, or bonds. That's the reason borrowing does not result in gross income. But the fungibility argument is not relevant because all it means is that even though we own the cash (common parlance and tax; else, we could not get basis or deductions when we spend it), we have to pay off the note some day - just not necessarily with the same cash.

After you're done explaining that, I'd like to know why it is that while a third party paying off the organization's liabilities would count as a cash contribution in the amount of the liability, the actual creditor cannot be afforded identical treatment for an identical result. Why would a taxpayer be able to claim a deduction for paying liabilities of a charitable organization, even when the organization has no control over what liabilities are paid, in all cases except when the liability is payable to the taxpayer himself? Because the third party is donating cash directly to the charity, who in turn pays off the note. If, OTOH, the third party bought the note from the original lender, he'd only pay its FMV (50% in an example I gave above). Then he could forgive it and get a deduction fot its FMV, not its face value.
 

#32
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Nilodop wrote:I want to know why we don't treat the borrower as having acquired ownership of the cash, whether in common parlance or from a technical income tax standpoint.. We do.

I saw your argument for why this is so from a tax standpoint, but I didn't see one for why it would be so within our common understanding. When I borrow something, I don't consider myself to own it regardless of whether it's cash or other property and regardless of whether I pay for its use or not. Even when the transaction is formalized into the sale of a note, it's still just a method of borrowing money.

You seem to disagree with that here...
The cash we borrow was "paid for" by issuance of a note, just like when the government "sells" Treasury notes, bills, or bonds. That's the reason borrowing does not result in gross income.

...but the fact that the terms "paid for" and "sells" are employed doesn't change the fact that borrowing is the controlling concept in this situation.

The tax code also views the issuance of a note payable as a borrowing and not a sale. If it were a sale, income would be recognized equal to the difference between the issue price of the note and the borrower's basis in the note. The basis, if there is any, would be negligible, and most of the loan proceeds would be taken into income. This is how things would work if the issuer of the note really did own the cash they received. Instead, there is no ownership over the cash, no income, and no sale.

But the fungibility argument is not relevant because all it means is that even though we own the cash (common parlance and tax; else, we could not get basis or deductions when we spend it), we have to pay off the note some day - just not necessarily with the same cash.

I would respond that it is relevant because that's not the only thing it means. It also means that if I lend someone money, it would be meaningless to try and trace precisely which money it was that I lent them in order to expect the same money back. So, the moment the money leaves my account, both my right and my ability to receive repayment of the money I lent become unrelated to what was actually done with the money. While a non-fungible asset is capable of being destroyed, extinguishing my ownership interest in it, my ownership interest in a fungible asset cannot be extinguished so easily. That would require an event such as bankruptcy, writing off the debt, or—as is most relevant to our facts—forgiving the debt.

Fungibility is also the answer to the question of how I can claim a deduction for an expense paid with borrowed funds. The expense results in a true reduction in net assets because the creditor's interest in my money has not decreased even though some of the money they lent is now gone. Because of fungibility, I am free to shift my perspective on the money in my account so that it now belongs to me. In that case, the creditor's interest in my money shifts to a right to a portion of my future income. The value of that right is unchanged because the interest payments will balance against the reduced present value of the cash flows. That is, of course, unless the loan is interest free, in which case there is a donative element to the loan, just as RR 81-286 confirms.

If, OTOH, the third party bought the note from the original lender, he'd only pay its FMV (50% in an example I gave above). Then he could forgive it and get a deduction fot its FMV, not its face value.

Regardless of any FMV that may exist on the note, the charity's liability to repay the full amount of the note remains unchanged. If a third party chooses to satisfy that liability in full with a direct payment, they are treated as gifting the money to the charity, who then pays off the liability.

Your proposed method of acquiring the note for 50% of value and then forgiving it for the 50% payment would also work. In both your example and mine, the deduction is for the amount of money spent. The same holds for out-of-pocket expenses in gratuitous service of a charitable organization. If I perform non-gratuitous services for a charity, there's no deduction. But if I later decide to cancel my invoice, I can take a deduction for the amount of money I spent performing the services. Likewise, if I lend money in an arm's length transaction but later decide to give up my interest in that asset, I can take a deduction for the amount of money I've canceled my interest in.
Last edited by Chay on 8-Oct-2019 11:35am, edited 1 time in total.
 

#33
Nilodop  
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I was reading some stuff while you posted that last one:

The amount paid by a taxpayer to purchase building bonds issued by a church is not a gift made to the church, and the taxpayer is not entitled to deduct the price paid for the bonds as a contribution to or for the use of the church for Federal income tax purposes. However, in the event of a subsequent gift of such bonds to the church, the donor is entitled to a charitable deduction for their fair market value at the time of the gift, subject to the limitations of section 170(b) of the Internal Revenue Code of 1954, provided also that the church qualifies as an organization described in section 170 of the Code.
. RR 58-262.
 

#34
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I saw your argument for why this is so from a tax standpoint, but I didn't see one for why it would be so within our common understanding.. If a bank lends me money, it's mine, not theirs. I have to pay them money later, but the money they lent me is mine to do with as I choose. I have to pay the bank when due, but they don't care what I do with my money until that date. It's mine. Just hear the commercials for home equity loans.

The tax code also views the issuance of a note payable as a borrowing and not a sale. If it were a sale, income would be recognized equal to the difference between the issue price of the note and the borrower's basis in the note. The basis, if there is any, would be negligible, and most of the loan proceeds would be taken into income. This is how things would work if the issuer of the note really did own the cash they received. Instead, there is no ownership over the cash, no income, and no sale.. I think that's a misunderstanding on your part. The reason there is no income when I borrow money is that, by agreeing to pay the bank, I have offset the increase in my net worth with an equal decrease in my net worth. They are separate, the asset and the liability. I own the asset.

Your two fungibility paragraphs confuse me, but to the extent I can understand them, they seem to agree with my position.

Your last paragraph says in part In both your example and mine, the deduction is for the amount of money spent.. There is nothing in 170 that says your deduction is for the amount spent. In our facts, the amount spent happened years ago, and was stipulated to be a bona fide loan. The donation was years later, a donation of property, deductible at FMV. The substance of the transaction in the year of forgiveness is a donation of the FMV and a non-business (personal, non-deductible) loss.
 

#35
Chay  
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Nilodop wrote:If a bank lends me money, it's mine, not theirs. I have to pay them money later, but the money they lent me is mine to do with as I choose. I have to pay the bank when due, but they don't care what I do with my money until that date. It's mine. Just hear the commercials for home equity loans.

My answer to this is the same fungibility argument I posted in #32: Because of fungibility, I am free to shift my perspective on the money in my account so that it now belongs to me. In that case, the creditor's interest in my money shifts to a right to a portion of my future income. The value of that right is unchanged because the interest payments will balance against the reduced present value of the cash flows.

The reason there is no income when I borrow money is that, by agreeing to pay the bank, I have offset the increase in my net worth with an equal decrease in my net worth. They are separate, the asset and the liability. I own the asset.

My original point was that the creditor has an ownership interest in the asset. As stated above, since the asset in question is fungible, the ownership interest doesn't go away just because you spend the cash. You can say you own all the cash in your bank account and it will be true, but the bank still has an interest in it and/or whatever other cash you may have or may receive in the future.

There is nothing in 170 that says your deduction is for the amount spent.

There's nothing specifically in the statute, true. But there is still plenty of precedent for deducting amounts you pay on behalf of a charitable organization. When you give up cash, the FMV is simply the amount of cash.

In our facts, the amount spent happened years ago

"Spent" may not be the most appropriate term here, but to use it anyways, there is another amount waiting to be "spent" at the present time: the repayment of the loan.

The donation was years later, a donation of property, deductible at FMV.

I agree that in some cases, this treatment would apply. The example you found from RR 58-262 is clearly one such case. The building bonds in that example are not forgiven but instead transferred; the church at its own discretion may choose to re-sell the bonds or extinguish them.

If in the same set of facts the church reneged on the building bonds, there would be a capital loss to the holder equal to the holder's basis. If the holder abandoned the bonds, there would be an itemized deduction equal to the holder's basis. A marketable security such as a bond isn't something you would typically think of as able to be "forgiven", but if it were, there is no reason to think that the treatment must match any of the three various treatments I've summarized here.
 

#36
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I don't "get" the fungibility argument, and I also don't "buy" it.

My original point was that the creditor has an ownership interest in the asset.. Certainly not in a financial statement or tax sense. An unsecured promissory note just sits out there on the window side of the balance sheet, and the cash just gets to be spent or, if it's still there, to be commingled with any other cash they have, on the left side. THe creditor has no legal, beneficial, or equitable ownership in it.

When you give up cash, the FMV is simply the amount of cash.. Right, and the same when you "give up" cash to pay a charity's expenses. But when you just cancel ("give up") a note that was issued years ago, with no gift made, contemplated, or intended, you deduct the FMV of the note. Sometimes that's the unpaid balance, often it's less.

Regardless of the property's being a bond or a promissory note, its treatment as a contribution is the same,

I admire your persistence.
 

#37
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But when you just cancel ("give up") a note that was issued years ago, with no gift made, contemplated, or intended, you deduct the FMV of the note.


Yes, perhaps years ago. And correct me if I’m wrong, but Sec 170 talks a payment made “within the taxable year.”

If Chay made a loan to United Way in 2000, he couldn’t deduct, in 2000, that cash he forked over in 2000 because it was a loan. And he can’t deduct that cash in 2019 because the cash wasn’t contributed in 2019. So, Chay is completely out of luck on any type of charitable deduction that takes the Cash route.

The creditor has no legal, beneficial, or equitable ownership in it.


Right. Although the creditor might have secured the loan, with the United Way’s backhoe, or some other United Way asset. If that happened, and we follow Chay’s route, wouldn’t we claim a non-cash donation for the backhoe, in the year we forgive the note, based on the “ownership” theory?
 

#38
Chay  
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Nilodop wrote:I don't "get" the fungibility argument

The fungibility argument is like saying if you add water to a pond, you always have a right to take back the same amount of water regardless of what water it is or what fluctuations there have been in the water level. As a result, you maintain an ownership interest in that specified amount of water.

THe creditor has no legal, beneficial, or equitable ownership in it.

The creditor has an enforceable right to take back the money it loaned. That seems like a clear ownership interest to me. Your primary counter-argument seems to be "how can the creditor own the money if I own the money", and this is where the concept of fungibility comes in.

But when you just cancel ("give up") a note that was issued years ago

Cancelling a note and giving up the note to someone else are two different things. The note is what maintains an ownership interest in the cash held by the borrower. Canceling the note revokes that ownership interest, and the deduction is for the FMV of the cash. The note itself is not cash, but property. Transferring the note without canceling it causes the deduction to be for the FMV of the note.

As an analogy, think of selling a house to tenants who occupy the house vs. selling a tenant-occupied house to a third party. The value of the house will be measured differently in each case. For a third party, the tenants could cause the FMV to be higher or lower depending on the net income or expense anticipated to arise from them. That isn't a consideration for the tenants themselves.

Jeff-Ohio wrote:If Chay made a loan to United Way in 2000, he couldn’t deduct, in 2000, that cash he forked over in 2000 because it was a loan. And he can’t deduct that cash in 2019 because the cash wasn’t contributed in 2019. So, Chay is completely out of luck on any type of charitable deduction that takes the Cash route.

The cash is a constructive contribution rather than an actual transfer. There's plenty of precedent for that sort of thing.
 

#39
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The creditor has an enforceable right to take back the money it loaned.

Right, that’s all he has. FWIW, that right can only be enforced if the terms of the note are not met.

That seems like a clear ownership interest to me.

Does that mean the bank owns your house? I guess you’d be fine with going to sleep tonight only to find the Branch Manager snoring in your bed. (Ownership entails a bundle of rights, one big one is the right to use and enjoy the asset. That big right does not extend to the guy who lent the money).

The note is what maintains an ownership interest in the cash held by the borrower.

There was never any ownership to begin with.

The cash is a constructive contribution rather than an actual transfer.

No it’s not…because it was “actually” contributed in the past.

But I get where you’re going…you’d like to cast it like this: $10k loan to charity in 2017. Let’s pretend there have been interest-only payment up until now, so the balance is still $10k. FMV is $4k now. You would have it that the charity repaid $4k on the loan and then the “donor” turned around and made a cash charitable contribution for the $4k. $6k is left on the note, which the donor cancels. Under your theory – and correct me if I’m wrong - that $6k must be a valid deduction because the donor has relinquished his right to $6k of the $10k he previously lent.
 

#40
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All I'm saying is that cash, when lent, is not treated differently from any other lent asset.

When a house is lent, the owner has an enforceable right to evict and take possession of their property. The right can only be enforced if the terms of the lease are not met, but there is no question as to who owns the property. In spite of their ownership of the property, a landlord doesn't have the right to sleep in a tenant's bed. The owner has given up enjoyment of that right in exchange for income. If a landlord rents a house to a charity and later decides to transfer the title to the charity, they can take a donation for the fair market value of the house (as opposed to the rental agreement) even though the charity had physical possession of the property both before and after the transfer.

I am mystified as to why you and Nilodop seem to believe that everything must operate differently when we substitute "cash" for "house" into the above scenario. You are of the opinion that cash cannot be lent. You claim that the sequential acts of a lender transferring cash to a borrower and the borrower transferring an equivalent amount of cash to the lender are not acts of lending and returning, even though that is exactly how we normally conceive of them and discuss them. Instead, the acts are separate, unrelated transactions similar to purchases or sales. The reason, apparently, is that the borrower can do whatever they want with the cash as long as they otherwise fulfill the terms of the arrangement, even though that is precisely what anyone who borrows or leases any sort of property can do.
 

#41
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If a landlord rents a house to a charity and later decides to transfer the title to the charity, they can take a donation for the fair market value of the house (as opposed to the rental agreement) even though the charity had physical possession of the property both before and after the transfer.

But that's not comparable to the loan. What would be comparable would be if the lender "transfers" his right to collect rent (the lease) to the charity, but does not transfer the deed to the house. And if the charity had fallen on hard times and was unable to pay the rent, that lease would have a reduced FMV. (For discussion purposes only, I am disregarding the other complication - that free rent to a charity is not even deductible).

At the maturity of the note, the lender might have been paid in full (if the charity had recovered financially), but at the time of the transfer/forgiveness, that's not the likely situation, so only the reduced value gets deducted. That note represented the right to collect the principal as well as the interest. The principal will not get repaid, not just because the note was forgiven, but because some major part of it was more than the charity could pay. The right to both has a reduced value at the time of forgiveness.

At the end of the lease, the owner might have been paid all the back rent, but at the time of the forgiveness of the lease, that's not the likely situation, so again only the reduced value gets deducted. That lease represented the right to get back the house as well as to collect the rent. Landlord will, in fact, get back the house, the whole house, despite the charity's financial problems. The house's value did not decrease.

Statd more simply, donating the lease only gives up the right to collect rent, but donating the note gives up the right to collect interest and principal.
 

#42
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Nilodop wrote:Statd more simply, donating the lease only gives up the right to collect rent, but donating the note gives up the right to collect interest and principal.

You started out saying that donating a house is not comparable to canceling a note receivable, but then you concluded with this, which shows the exact opposite. Giving a house to its tenant and canceling a note receivable are in fact analogous because each act relinquishes the property that was previously lent.

Perhaps what you meant to say is that the situations are distinct because the likelihood of a creditor recovering cash is significantly lower than the likelihood of a landlord recovering a house. With that there can be no argument. Yes, the risks involved in the two types of arrangements are very different. However, I don't see that fact as relevant to the argument. My property is not any less my property no matter how greatly I subject it to a risk of loss.

To your point about the reduction in fair market value: if a tenant lays waste to my property, the property loses value. If a tenant misses payments on a lease, the lease loses value. If a borrower suffers from financial problems, then the associated note receivable loses value. All of these things are non-cash property whose value is measured in cash. But cash itself cannot lose value in an accounting or tax sense, nor can a lender's interest in borrowed cash be extinguished through the depletion of that cash. Due to fungibility, an interest in future income is just as good as an interest in present cash accounts, so that's the type of interest the lender will have. Sure, the interest is subject to an extreme risk of uncollectibility. This risk will be reflected in the cash value of the note receivable, but it cannot alter the value of the cash itself, and that's the value that matters.
 

#43
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Jeff-Ohio wrote:$6k is left on the note, which the donor cancels. Under your theory – and correct me if I’m wrong - that $6k must be a valid deduction because the donor has relinquished his right to $6k of the $10k he previously lent.

If there is truly no hope of recovering the $6k, then I'd say the lender has sustained a $6k capital loss. Once that line is crossed, I don't see a way to go back and characterize the transaction as a gratuitous transfer. But that has more to do with tax rules related to loss recognition than with the argument I'm making.

If the note cannot yet be determined to be uncollectible, then the lender has the option of forgiving the balance of the note and claiming a charitable cash contribution. But the forgiveness should actually be done with charitable intent and not simply because the lender doesn't feel he'll be able to collect much more on the note.
 

#44
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In my mind, the money is not lent in the sense that a property is rented, it is transferred to the borrower in exchange for a note - a different kind of asset from the liquid, fungible cash. It is more akin to a seller financed sale of property - property exchanged for a note. The lender cannot convert the note back to cash by choosing not to collect it.
 

#45
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OK, let's cut through it this way. It's all quite comparable.
Lending money on a note involves getting interest for use of the money, and getting back the amount of the loan.
Lending property on a lease involves getting rent for use of the property, and getting back the property.
If the charity gets into financial problems while the note is outstanding, we deduct the reduced value of the note when it is forgiven as a charitable gift, taking into account the significant reduction in its value because of inability to repay the principal.
If the charity gets into financial problems while the lease is in effect, we deduct the reduced value of the lease when it is forgiven as a charitable gift, (again for now disregarding the rule that free rent is not a deduction), taking into account the the value of the property, which has not gone down just because the charity can't pay the rent.
So it's all quite comparable.
And the capital loss on the note is personal unless the lender is in the lending business.
 

#46
Chay  
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Nilodop wrote:If the charity gets into financial problems while the note is outstanding, we deduct the reduced value of the note when it is forgiven as a charitable gift, taking into account the significant reduction in its value because of inability to repay the principal.

I've already made my case as to why the lender can claim a deduction for the borrowed cash itself as opposed to the note. That argument is my answer to this claim, which itself is a restatement of ideas you've already expressed.

And the capital loss on the note is personal unless the lender is in the lending business.

I'm not sure why you believe that. See section 165(c):

    (c)Limitation on losses of individuals In the case of an individual, the deduction under subsection (a) shall be limited to—

      (1)losses incurred in a trade or business;

      (2)losses incurred in any transaction entered into for profit, though not connected with a trade or business; and

      (3)except as provided in subsection (h), losses of property not connected with a trade or business or a transaction entered into for profit, if such losses arise from fire, storm, shipwreck, or other casualty, or from theft.
 

#47
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I'm not sure why you believe that.. Yeah, I realized that. I retract that, because once we establish that the gift was not intended when the loan was made, and it's a real note with market rate interest, yes, it's an investment.

But that's all I retract.
 

#48
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Story v. Commissioner, 38 T.C. 936 (1962)

Synopsis by the Court:

Petitioners advanced $45,194.68 to a charitable organization in 1955 to build a chapel and received a promissory note from the organization in the amount of the funds advanced. After consulting their tax advisor at the end of each year, petitioners forgave a portion of the principal amount of the note each year by endorsing on the back thereof the amount canceled by gift. Held, petitioners did not make a gift of the entire amount advanced in 1955. Held, further, petitioners are entitled to deduct as a charitable contribution, to the extent allowed under section 170, I.R.C. 1954, the amount of the indebtedness canceled in each of the years 1955-1958 by endorsements on the back of the note.
 

#49
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Yeah, but Chay doesn’t want to say he has a Receivable. The Receivable is not a distinct asset under Chay’s theory. It is just the mechanism that determines the timing of the deduction. He is also using it to peg the value of the deductible portion of his contribution. But remember: Chay says his current year deduction is in the nature of Cash…cash he gave a long while ago. But he’s saying he really didn’t give it a long time ago, given that he wants to take a current year Cash deduction for it. Thus, what Nilidop and I are calling a Receivable Asset, Chay is calling it a “Cash I gave awhile ago, but I Haven’t Given It Yet” Asset. When Chay pulls the string, the cash is given, even though it was already given. No bad debt deduction for the worthless piece under Chay’s theory. There is no Receivable Asset under Chay’s theory, and hence, there cannot be a loss deduction. What Chay’s asset sounds like, under Chay’s theory, is a prepaid expense, but it isn’t that under any valid theory.

If the contributed amount was $10k, and Chay’s saying it was all cash, and any deduction flowing from the transaction would be a cash deduction, you cannot parse things apart at any point and say, “This much is deductible Cash and this much is non-deductible Cash.” You can’t do that with cash (unless some benefit was received in return). Or unless you have some misguided theory that ignores a Receivable as a separate asset, but uses its existence to determine the timing and value of the tax deduction associated with a long-ago cash advance.
 

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Pitch solved it! All hail Pitch!
 

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