Proposed House Bill Would Address Cancellation of Debt Income for Distressed Commercial Real Estate Owners

• September 29, 2023
• Carey M. Heyman, CPA

Bipartisan legislation (H.R. 5580) was introduced in the House of Representatives earlier this month that would make it easier for commercial real estate borrowers to defer cancellation of debt income from loan modifications or debt workouts.  According to Moody’s Analytics, almost $1.4 trillion of commercial mortgages are set to mature in 2023 and 2024.  Yahoo! Finance has also reported that commercial maturities are expected to hit $550 billion in 2027.

H.R. 5580 would apply to commercial or retail indebtedness incurred or assumed by a taxpayer prior to March 1, 2022 that is discharged during the period beginning December 31, 2022 and ending January 1, 2027.  The legislation was introduced by Representatives Claudia Tenney (R – NY) and Brian Higgins (D – NY), and co-sponsored by Representatives Mike Lawler (R – NY) and Pat Ryan (D – NY).

“In the case of commercial real estate, the full economic consequences of the pandemic are still unfolding. Remote work and other challenges facing cities have put stress on certain real estate assets, such as office buildings. Debt workouts between lenders and borrowers are a critical part of the solution. Workouts can ensure that these properties continue supporting jobs and economic activity,”

– Real Estate Roundtable President and CEO Jeffrey DeBoer  

Section 108 of the Internal Revenue Code (IRC) currently addresses the tax consequences of the discharge of indebtedness.  Some highlights of the code section include:

• A partnership or S-Corporation may elect to exclude the discharge of indebtedness from gross income to the extent that it is qualified real property business indebtedness (QRPBI) discharged after 1992. QRPBI is defined as indebtedness that was incurred or assumed by the taxpayer in connection with real property that is used in a trade or business and is secured by such real property.¹
• The amount of QRPBI that can be excluded from gross income is limited to the excess of the outstanding principal amount of all QRPBI secured by the property, immediately prior to the discharges, over the fair market value of the property immediately before the discharge.
• The determination as to whether discharged indebtedness is QRPBI and the amount by which the principal amount of QRPBI exceeds the fair market value of the property is determined at the partnership level.
• The amount of discharged QRPBI that can be excluded from gross income is limited to the taxpayer’s basis in the depreciable real property.
• In exchange for excluding discharged QRPBI from gross income, a taxpayer can reduce the portion of their basis in a partnership interest attributable to the partnership’s depreciable real property and make a corresponding reduction in their share of the partnership’s basis in the depreciable real property.
• The reduction in basis is treated as additional depreciation for purposes of IRC Section 1250.
• The election to exclude discharged QRPBI is made by an individual partner.
• The election is made on a completed Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment).  The election must be made on the timely filed, including extensions, income tax return for the taxable year in which the taxpayer has discharge of indebtedness income that is eligible to be excluded.

¹ QRPBI incurred or assumed prior to 1993 is considered qualified acquisition indebtedness, or indebtedness incurred or assumed to acquire, construct, reconstruct, or substantially improve the property securing the debt.

Sources: Bloomberg Tax, Real Estate Roundtable, Moody’s Analytics, Yahoo! Finance

Tags: Cancellation of Debt, Cancellation of Debt Income, Commercial Real Estate, CRE, Discharge, H.R. 5580, HR 5580, Mortgages, Federal and state taxation, including proposed regulations, Industry trends/analysis, Year-end tax planning | 1 Comment »