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Generally, section 166(a) provides that a taxpayer may
deduct a bad debt in full in the year it becomes worthless.
Under section 166, worthless business bad debts are fully
deductible from ordinary income. On the other hand, worthless
nonbusiness bad debts are treated as short-term capital losses.
Secs. 166(d)(1)(B), 1222(2). A nonbusiness bad debt is defined
in section 166(d)(2) as a debt other than:
(A) a debt created or acquired (as the case may
be) in connection with a trade or business of the
taxpayer; or
(B) a debt the loss from the worthlessness of
which is incurred in the taxpayer's trade or business.
When a taxpayer guarantees a debt in the course of his trade
or business, payment of part or all of the taxpayer's obligations
as guarantor is treated as a business bad debt in the taxable
year in which the payment is made (assuming the taxpayer's right
of subrogation against the debtor is worthless). If the
guarantee was made in the course of the taxpayer's trade or
business, the loss can be used to reduce ordinary income in the
year of payment. Sec. 1.166-9(a), Income Tax Regs. However, if
the agreement guaranteeing the debt was entered into for profit,
but not in the course of the taxpayer's trade or business, the
loss is a short-term capital loss in the year in which the
guarantor pays the debt. Weber v. Commissioner, T.C. Memo. 1994-
341; Smartt v. Commissioner, T.C. Memo. 1993-65; Brooks v.
Commissioner, T.C. Memo. 1990-259; sec. 1.166-9(b), Income Tax
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