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appropriately deemed to have paid the interest in the disposition
of his residence.
Respondent contends that our holding in Lackey v.
Commissioner, T.C. Memo. 1977-213, requires that the fair market
value of foreclosed property exceed the principal indebtedness
before any amount can be allocated to interest. In Lackey, the
taxpayer claimed a deduction for interest paid on the disposition
in foreclosure of property he conceded had a value lower than the
outstanding indebtedness. The taxpayer argued that he was
nevertheless entitled to an interest deduction because State law
required that partial payments on indebtedness be allocated first
to interest and then to principal. We denied the deduction based
on precedent holding the “interest first” rule to be inapplicable
where the debtor is insolvent. Respondent’s reliance on Lackey
is nevertheless misplaced because the case involved a recourse
loan,9 and thus was governed by different principles of
realization.
More relevant to our analysis is our holding in Harris v.
Commissioner, T.C. Memo. 1975-125, affd. without published
opinion 554 F.2d 1068 (9th Cir. 1977), which, like the
transaction at issue, involved the deemed payment of interest in
9We stated in Lackey v. Commissioner, T.C. Memo 1977-213,
that “there was little likelihood that * * * [the lender] would
receive any payments from petitioners other than the proceeds
from the foreclosure sales.” (Emphasis added.) Had the debt been
nonrecourse, the bank would have had no opportunity to seek
payments other than from the proceeds of the foreclosure sales.
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