Final Regulations Amend Section 6050P Regulations to Remove 36-Month Nonpayment Testing Period

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November 15, 2016

Last week, the IRS issued final regulations removing the 36-month nonpayment testing period from the regulations issued under section 6050P of the Code.  The final regulations adopted the proposed regulations issued in 2014 without significant changes.

Code section 6050P requires certain financial entities to file a Form 1099-C when it cancels (in whole or in part) debt of a debtor in the amount of $600 or more.  This obligation is generally triggered when an identifiable event, as defined in the regulations, occurs.  Unlike all of the other identifiable events, the expiration of the 36-month nonpayment period, which creates a rebuttable presumption that an “identifiable event” occurred that would trigger the obligation to report the cancellation of debt on Form 1099-C, does not necessarily reflect a discharge of the underlying debt.  The presumption of discharge could be rebutted if the creditor showed that it had undertaken significant bona fide collection activity in the calendar year during which the 36-month period expired or if the facts and circumstances existing as of the January 31 following such calendar year indicated the debt had not been discharged.

As a result of the final regulations, entities required to report under Section 6050P will no longer need to file Form 1099-C reporting cancellation of debt because of the expiration of the 36-month nonpayment period and the lack of bona fide collection activity.  The IRS removed the rule because it often caused significant confusion.  Although a creditor could be obligated to file a Form 1099-C as a result of the rule, the creditor may not have actually discharged the debt.  Nonetheless, the rule may lead a debtor to conclude that the debt has actually been discharged because he or she received a Form 1099-C and the rule may create confusion among creditors regarding whether they may legally continue to pursue the debt following issuance of the Form 1099-C.  (For examples, see FDIC v. Cashion (holding that the issuance of Form 1099-C does not discharge the underlying debt) and Franklin Credit Mgmt. Corp. v. Nicholas (holding that Form 1099-C is a writing that serves as prima facie evidence that a debt has been discharged).)  Furthermore, issuing a Form 1099-C may cause the IRS to initiate collection action against the debtor for failing to report income from the cancellation of debt reported on Form 1099-C even though the creditor has not actually discharged the debt.  To alleviate confusion and simplify tax administration, the IRS eliminated the 36-month nonpayment testing period, thus limiting identifiable events to the defined events that coincide with an actual cancellation of debt.