MLR

Court rules on abandonment in foreclosure case

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Harvey L. Tucker was a Florida resident who owned 100 percent of the stock of Paragon Home Corp. Paragon was organized as an S corporation with Tucker as the only shareholder.

Paragon was a residential land development and home-building company that owned many different types of properties in Hillsborough County, Fla.

In 2007 and 2008, the residential real estate market in Hillsborough County began declining with both home starts and home closings down substantially. The median price of a home had declined 36 percent since June 2006.

In 2008, Tucker hired Jamie Myers to appraise his various properties. Most of the properties owned by Paragon were worth less than their respective mortgage balances because of the severe decline in the residential real estate market.

Because of this downturn, Tucker thought it was appropriate to write down the value of his properties. When he filed his 2008 Form 1120S, U.S. Income Tax Return for an S Corporation, he reported a loss of more than $10 million. This loss was mainly due to the nearly $9 million write-down in the value of his properties.

Tucker elected to carry this loss back to the 2003-2006 tax years, thus generating huge refunds for those years on his Form 1045, Application for Tentative Refund. Tucker hired an accountant to prepare these various tax returns.

Section 165(a) of the Internal Revenue Code allows a loss for the year provided that there is no insurance reimbursement. For the loss to be deductible, it must be a closed and completed transaction. IRS regulations define a closed and completed transaction as a sale or other disposition of the property. In some cases, a closed and completed transaction can be achieved if the taxpayer abandons the asset or the asset becomes worthless.

Court cases have determined that, to claim a loss for abandonment, you must have both an intent to abandon the asset and an affirmative act of abandonment. Mere nonuse of the property is not enough to accomplish abandonment.

Extensive case law establishes when a taxpayer’s real property is secured by a recourse obligation. The taxpayer is not entitled to a loss deduction until the year of the foreclosure sale, regardless of when the taxpayer abandons the property or claims the property became worthless.

The U.S. Tax Court determined that the write-down in value of the properties by Paragon was not a closed and completed transaction. The facts and circumstances of the case indicate that the properties were not abandoned in 2008, and they were not worthless. A number of these properties were subsequently sold in 2009 and 2010, with the proceeds used to pay off or pay down liabilities owed to the various banks.

Most of the properties that Paragon wrote down in 2008 ended up being sold sometime in 2009 or 2010. A few of the properties ended up going through foreclosure proceedings in 2010. Because all of the properties that Paragon owned were secured by a recourse obligation, case law dictates that a loss deduction cannot be taken until the year of the foreclosure sale, regardless of when the taxpayer claims to have abandoned it.

For these various reasons, the court determined that Paragon had not met the burden to establish abandonment or worthlessness of its properties before the foreclosure sale. Therefore, the large loss in 2008 was disallowed (Harvey L. Tucker v. Commissioner, U.S. Tax Court, T.C. Memo 2015-185, Sept. 22, 2015).