Page 138 - Bankruptcy Volume 1

actually be traded on an exchange. Rather, under new regulations effective in November 2012, the bar
for debt to be classified as publicly traded is quite low. fn 13

Not all debt reductions result in COD income, and a variety of factors affect the amount of COD income
realized. The cancellation of a debt obligation may not necessarily be COD income; it may be a gift or
contribution to capital or some other type of payment. fn 14 In addition, if payment instead of cancellation
would have given rise to a tax deduction for the debtor, or if the cancellation is an adjustment to the pur-
chase price of property (if debtor is solvent), then IRC Section 108 provides that the cancellation does
not give rise to COD income. fn 15

In addition, Section 108 provides six specific exclusions from gross income: general exclusions for
bankruptcy and insolvency, as well as more targeted exclusions for farm debt, real property business
debt and principal residence debt. fn 16 The exclusions under Section 108(a) can apply if "indebtedness of
the taxpayer" is discharged (in whole or in part). In the case of a partnership, Section 108(a) (and the re-
lated attribute reduction rules described next) applies at the partner level and not at the partnership level.
fn 17 The bankruptcy exclusion applies if the debtor is in a Title 11 proceeding and the COD is realized
pursuant to a discharge of the debt granted by the bankruptcy court or in a court approved plan. fn 18 The
insolvency exclusion applies only to the extent the debtor is insolvent. fn 19

Debtors that exclude COD income under the bankruptcy or insolvency exceptions are generally required
to reduce their tax attributes by the amount of COD income excluded. fn 20 Attributes are reduced in the
following order:

1. NOLs

2. General business credits

3. Minimum tax credits

4. Capital loss carryovers

5. Basis of both depreciable and nondepreciable assets (in the order provided in the regulations),
but in general such aggregate basis is not required to be reduced below the aggregate amount of
the debtor’s liabilities outstanding immediately after the discharge (the liability floor) fn 21

fn 13 Reg. Section 1.1273-2(f).

fn 14 Reg. Section 1.61-12(a).

fn 15 IRC Section 108(e)(2), (5).

fn 16 IRC Section 108(a)(1), (f)(1).

fn 17 IRC Section 108(d)(6).

fn 18 IRC Section 108(a)(1)(A), 108(d)(2).

fn 19 IRC Section 108(a)(3).

fn 20 IRC Section 108(b)(1).

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