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advice, Michael executed in favor of petitioners an unsecured
promissory note in the amount of $55,000.
As to the $42,000 petitioners provided Michael for working
capital, no such note was executed by Michael. At trial,
petitioners explicitly testified that they really never expected
to collect the $42,000, which came from their savings, but that
they expected repayment of the $55,000.
On their Federal income tax return for 2000, petitioners
claimed a business bad debt deduction of $55,000. In 2003,
petitioners filed an amended income tax return to reflect the
$55,000 as a nonbusiness bad debt.2
In the notice of deficiency, respondent disallowed the
nonbusiness bad debt deduction on the ground that there was no
valid debtor/creditor relationship between petitioners and
Michael.
The Court disagrees with that determination. Section
166(d)(1) provides, with respect to a taxpayer other than a
corporation, that, where a nonbusiness bad debt becomes wholly
worthless within the taxable year, the loss shall be considered a
2Even though Michael made a few payments to the bank on the
$55,000 note, no evidence was offered at trial as to whether any
of those payments were applied to the principal of the note. The
Court assumes that the entire principal amount of $55,000 was
owing at the time petitioners filed their 2000 income tax return,
since the actual amount of the indebtedness was not made an
issue.
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Last modified: May 25, 2011