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Merlo, Accountant
Category: Tax
Satisfied Customers: 9783
Experience:  25+ years tax consulting. Specializing in returns for US citizens living abroad
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I had a business transaction with a friend and wife (Charles

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I had a business transaction with a friend and wife (Charles and Christine) to loan them money and they had a house they owned for collateral. To make it more complicated, the people (Fermin and Elisa) living in the house are buying it through Charles & Christine. The payments stopped Sept. 1, 2008 because Charles died before the debt was ever paid in full. The balance they owed us was $8,086.56. Can I take a loss on 2008 Income Tax for this amount and where do I report it on form 1040?

Was you loan secured by a lien on the property?

Customer: replied 7 years ago.

No, just a Deed of Trust.


Hello again jomar,

If someone owes you money that you cannot collect, you have a bad debt.

A personal bad debt is deducted as a short term capital loss and is subject to the capital loss limitations of no more than $3,000 in total capital losses in any one tax year. If your losses exceed the amount you can deduct in the current year, you can carry forward the remaining loss to be deducted in future tax years, until you have been able to deduct the entire amount.

To be deductible, nonbusiness bad debts must be totally worthless. You cannot deduct a partly worthless nonbusiness debt.
A debt must be genuine for you to deduct a loss. A debt is genuine if it arises from a debtor-creditor relationship based on a valid and enforceable obligation to repay a fixed or determinable sum of money.

For a bad debt, you must show that there was an intention at the time of the transaction to make a loan and not a gift. If you lend money to a relative or friend with the understanding that it may not be repaid, it is considered a gift and not a loan. You cannot take a bad debt deduction for a gift. There cannot be a bad debt unless there is a true creditor-debtor relationship between you and the person or organization that owes you the money.

You can take a bad debt deduction only in the year the debt becomes worthless. You do not have to wait until a debt is due to determine whether it is worthless. A debt becomes worthless when there is no longer any change that the amount owed will be paid. It is not necessary to go to court if you can show that a judgment from the court would be uncollectible. You must only show that you have taken reasonable steps to collect the debt. Bankruptcy of your debtor is considered good evidence of the worthlessness of at least a part of an unsecured debt.

Please refer to the following IRS publication under the section titled “Capital Gains and Losses – Nonbusiness Bad Debts”.

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Thank you.
Customer: replied 7 years ago.
Okay, We have been to our lawyer and he thinks perhaps it would be a bad debt. We have all kinds of paperwork. Would you please tell me where on the 1040 or what Schedule? Maybe I would find it in Publication 17.
Hello again jomar,

The deduction for bad debts is taken on Schedule D, Part I, short term capital gains and losses.

Your overall losses on Schedule D are limited to no more than $3,000 for the year. If you cannot deduct the entire amount of the loss this year, then you will carry forward the remaining loss and deduct up to $3,000 in future tax years until you have deducted the entire amount.

Please refer to page 54 of the following publication, under the paragraph titled "How To Report Bad Debts" for specific instructions.

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Thank you.

Merlo and 2 other Tax Specialists are ready to help you
Customer: replied 7 years ago.
Thank you. I never had this kind of thing before and it was puzzling to me. I just don't want to make a mistake on my Taxes...not good!
I understand completely, and it is good that you are smart enough to ask questions first instead of being sorry later.

Thanks again, and let me know if I can be of more help. Accepting my answer gives me credit for helping you.

Thanks, XXXXX XXXXX luck.

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