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guaranteed the debt in the course of his or her trade or
business, payments on the guaranty are treated as a business bad
debt at the time of payment if the guarantor's right of
subrogation against the debtor is then worthless. In such a
case, the bad debt is an ordinary deduction that may offset
ordinary income. Sec. 1.166-9(a), Income Tax Regs. If, on the
other hand, the guarantor guaranteed the debt in the course of a
transaction entered into by the guarantor for profit, and not in
the course of his or her trade or business, the bad debt is a
short-term capital loss realized when paid, and the recognition
of it is subject to the limitations of section 1211. See
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 Regs.
A guarantor is entitled to a business bad debt deduction for
a guaranteed debt that he or she pays when the guarantor proves
that: (1) He or she was engaged in a trade or business at the
time of the guaranty and (2) the guaranty was proximately related
to the conduct of that trade or business. See Putoma Corp. v.
Commissioner, 66 T.C. 652 (1976), affd. 601 F.2d 734 (5th Cir.
1979); sec. 1.166-5(b), Income Tax Regs. Whether the guarantor
is engaged in a trade or business is factual. United States v.
Generes, 405 U.S. 93, 104 (1972); sec. 1.166-5(b), Income Tax
Regs. Whether a guaranty is proximately related to the
guarantor's trade or business rests on his or her dominant
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