[lenraphael]

TP purchases raw land ten years ago for total 1.7 M cash. TP name and an unrelated friend listed on title. Friend had no cash but gave a 5pct long term note that was recorded. Over the years TP put in another 500k for entitlements, prop taxes. Never got the entitlements because of open space laws etc.

The friend kept giving new notes each year for half of the cash put in by TP that year.

No payments of any kind made by friend.

Prop for sale now. One offer for 1.9Mill which is 300k less than TP's cash investment.

The friend is broke.

TP is generous person and willing to tear up the notes and friend will quit claim friend's half to TP.

Accrued interest maybe 500k

Can you see the IRS imputing interest income to the TP in this situation?

Then TP would get a short term cap loss = imputed interest? TP has lots of ltcg's

[dave829]

See 108(e)(2).

[Nilodop]

The debtor is a friend of taxpayer. Taxpayer is a generous man. Is a gift buried in there somewhere? Could taxpayer have sued and gottena judgment that friend might one day have had to pay? Were the notes recourse or non-recourse?

Who has been deducting the taxes and expenses over the years? Was interest (by the terms of the notes) supposed to be paid at least annually, or was it contemplated that friend might stay broke, so it was simply accrued? Have you considered the possibility there was OID?

[lenraphael]

no one deducted anything.

[Nilodop]

That partly answers one of my questions.

[lenraphael]

nothing deducted for raw land taxes insurance entitlements.


interest accrued and not due until a sale or financing/liquidity event

[Nilodop]

OID.

[lenraphael]

Tax attorney agrees the issue for my client is OID that should have been reported over the last ten years or more of the note.

There's a current year reportable gift also.

[gatortaxguy]

I'd forgive the accrued interest as a gift and exchange the note for the half interest. Your client will end up reporting a $150k short-term capital loss and a $150k LTCL. I would not amend past returns to report OID.