New Revenue Procedure 2009-37 and the Cancellation of Indebtedness Income Deferral Under I.R.C. Section 108(i)

 
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In 2009 Congress enacted I.R.C. Section 108(i), which permits a taxpayer to defer recognition of COD income when the taxpayer or a related person "reacquires" an "applicable debt instrument" in 2009 or 2010 pursuant to the American Recovery and Reinvestment Act. The IRS issued Revenue Procedure 2009-37 (2009 TNT 157-4) to provide rules and procedures for making an election under new section 108(i).
 
The author writes: Two temporary provisions were enacted recently in 2009 to provide relief from Cancellation of Indebtedness (COD) income recognition to certain taxpayers. First and foremost, Congress enacted I.R.C. Section 108(i), which permits a taxpayer to defer recognition of COD income when the taxpayer or a related person “reacquires” an “applicable debt instrument” in 2009 or 2010 pursuant to the American Recovery and Reinvestment Act, effective February 17, 2009. At the taxpayer's election, the COD income may be deferred until 2014 and then included ratably over a period of five years. Once made, the election is irrevocable. Generally, a taxpayer that elects to defer COD income through section 108(i) may not benefit from any other COD exclusions, including the title 11 and insolvency exclusions, with respect to the same debt instrument, or portion thereof, to which the election applies, for the tax year in which the election is made or any subsequent tax year.

Section 108(i) defines an applicable debt instrument as a debt instrument issued by a C corporation or by any other person in connection with the conduct of a trade or business by that person. An applicable debt instrument is “reacquired” if the debtor, or a related person to the debtor, “acquires” the debt, which is defined to include an acquisition (i) for cash, (ii) in exchange for another debt instrument (including an exchange resulting from a modification of the debt instrument), (iii) in exchange for corporate stock or a partnership interest, and (iv) as a contribution to capital. A debt instrument is also treated as acquired if it is completely forgiven by the holder.

On August 18, 2009, the IRS issued Revenue Procedure 2009-37 (2009 TNT 157-4) to provide rules and procedures for making an election under new section 108(i). As discussed below, Revenue Procedure 2009-37 provides both additional guidance on theoretical questions the statute did not address and procedures for making the election. More specifically, an election is generally made on an instrument-by-instrument basis, and a taxpayer may make a partial election for only a portion of COD income realized with respect to one or more instruments. Revenue Procedure 2009-37 confirms that a taxpayer that makes a partial section 108(i) election and defers only a portion of COD income realized with respect to a debt instrument may exclude from income the remaining portion of COD income under another applicable COD exclusion, such as the insolvency exception. In addition, if a taxpayer elects to defer COD income under section 108(i), original issue discount (OID) deductions in respect of the debt instrument issued to reacquire an applicable debt instrument will be deferred until the five-year period during which the taxpayer takes the COD income into account, and then be included ratably during that five-year period. [footnotes omitted]
 
  
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