The IRS lets you take a write-off for a debt that becomes worthless during the tax year. If the answer is yes, than there are five questions you need to answer:
- Is the debt actually worthless?
- Is it genuinely a “bona fide” debt? (not a gift)
- Is the debt factually a capital contribution? (Did you give it to a company in exchange for some ownership?)
- Is the debt a business bad debt?
- Is the debt a non-business bad debt?
Bad debt write-offs are now reported on Form 8949 and you have to include a statement with your return. This statement must include:
- The nature of the debt (including the amount),
- The name of the debtor and any business or family relationship to the taxpayer,
- The date the debt became due,
- The efforts made to collect the debt, and
- The reason for determining the debt to be worthless.
The additional reporting doesn’t mean that claiming a worthless bad debt is a red flag. The IRS just wants to make sure that you’ve done your due diligence in trying to collect the debt and that it’s not a disguised gift or investment that went bad.
Make no mistake: Filing your tax return is getting trickier. Now, more than ever, you need experienced CPAs who understand tax law and how to minimize audit risk. We can help! Our CPAs have an average of over 15 years of tax experience working with small business owners and real estate investors.