If you had debt cancelled and are no longer obligated to repay the debt, you generally must include the amount of cancelled debt in your income. However, if it was a discharge of real property business indebtedness, the debt generally does not have to be added to your return as income.
What is real property business indebtedness?
Qualified real property business indebtedness is indebtedness:
- that is incurred or assumed in connection with real property used in a trade or business;
- that is secured by that real property; AND
- with respect to which you have made an election under this provision.
*Note: This provision does not apply to a corporation.
If your indebtedness was incurred or assumed after 1992, does not qualify for this exclusion unless it is either:
- debt incurred to refinance qualified real property business indebtedness incurred or assumed before 1993; OR
- qualified acquisition indebtedness (see below).
Qualified acquisition indebtednness is
- debt incurred or assumed to acquire, construct, reconstruct, or substantially improve real property that is secured by such debt; and
- debt resulting from the refinancing of qualified acquisition indebtedness, to the extent that the amount of such debt does not exceed the amount of debt being refinanced.
What amount of cancelled debt can be excluded from income?
There are a few limitations as to the amount that you can actually exclude from income due to a discharge of real property business indebtedness. First, you cannot exclude more than the excess of the outstanding principal amount of the debt (immediately before the discharge) over the net FMV (as of that time) of the property securing the debt, reduced by the outstanding principal amount of other qualified real property business indebtedness secured by that property (as of that time). The amount that can be excluded is further limited to the aggregate adjusted basis (as of the first day of the next tax year or the date of disposition, whichever is earlier) of depreciable real property you held immediately before the discharge. This does not include any property that was acquired in contemplation of the discharge. Any excess could not be excluded, and would be included in income.
|1.||What was the principal of the canceled debt immediately before it was discharged?||1.|
|2.||At the time of the discharge, what was the FMV of the property that was securing the debt listed on line 1?||2.|
|3.||At the time of the discharge, what was the amount of outstanding principal for other qualified real property business indebtedness that was secured by that property?||3.|
|4.||Line 2 minus Line 3.||4.|
|5.||Line 1 minus Line 4.||5.|
|6.||What was the aggregate adjusted basis of depreciable real property that you held immediately before the discharge? Do not include any property that was acquired in contemplation of the discharge.||6.|
|7.||Enter the smaller of Line 5 or Line 6. This is generally the amount of cancelled debt that you can exclude from your income as a discharge of real property business indebtedness.||7.|