IRS provides mandatory rules for electing new cancellation of indebtedness income tax break

The IRS has released highly-anticipated guidance on how to defer cancellation of indebtedness income (COI) on repurchased debt. The IRS�s guidance allows qualifying businesses the option to defer a portion of their COI income, and clarifies that the election applies to debt reacquisitions for cash or property.

2009 Recovery Act

The American Recovery and Reinvestment Act of 2009 (2009 Recovery Act) enacted Code Sec. 108(i), which permits taxpayers to elect to defer COI income from the "reacquisition" at a discount of an "applicable debt instrument" in 2009 or 2010. The income is deferred until 2014, and then must be reported ratably over five years, through 2018.

Elections and reporting

Under the IRS�s new guidance, identifying information is required of the issuer of a debt instrument, the debt instrument itself, the reacquisition transaction, the total COI income for each instrument, and the amount being deferred.

Elections involving partnerships and S corps must be made by the passthrough entity itself. Moreover, the guidance requires additional reporting requirements for partnerships and S corps. Partnerships are allowed to use any method to determine how much income is deferred by each partner.

Extension and amended elections

The IRS has provided a generous 12-month extension to taxpayers to make their elections (which is on top of the extended due date for a timely-filed original income tax return). Moreover, the IRS will treat as valid any reasonable Code Sec. 108(i) election filed with a return on or before September 16, 2009, as long as the taxpayer files an amended return by November 16, 2009, that follows the new, mandatory procedure.

A taxpayer that files an election by September 16, 2009 may modify that election (for example, by changing the amount deferred) by filing an amended return by November 16, 2009, with a revised election that satisfies certain requirements provided under Revenue Procedure 2009-37.

We can help you determine whether your business qualifies for this significant � albeit temporary�tax break, in addition to what steps you might consider in buying back debt to qualify. Please call our office for details.