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purposes of the insolvency exclusion and its related provisions.
Liabilities that a debtor will not likely be called upon to pay
do not offset assets and cannot be recognized as liabilities
within the analytical framework of the insolvency exclusion and
its related provisions. The following example illustrates the
need to show the likelihood of a demand for payment on a claimed
liability. Assume that a debtor is discharged from indebtedness
of $99 for payment of $98. Prior to the discharge, the debtor
had cash in the amount of $100 and had guaranteed a friend's debt
of $10, which friend was solvent and not likely to default
(20 percent chance of total default) as the primary obligor.
Petitioners would argue that the debtor in the example has assets
of $100 and liabilities of $101 ($99 + 20 percent of $10 = $101)
and is entitled to exclude the $1 of discharge of indebtedness
income. The debtor in the example, under petitioners' test,
avoids an immediate tax liability on the $1 of income by virtue
of a liability that the debtor will not likely be called upon to
pay (20 percent likelihood of occurrence of total default is less
than “more likely than not”). In essence, the debtor avoids an
immediate tax liability when the preponderance of the evidence
suggests that the debtor has the ability to pay such tax, see
supra sec. II.C.3. That result frustrates Congress' purpose in
enacting the insolvency exclusion and its related provisions and,
therefore, is unacceptable.
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