Elliot Pisem and David E. Kahen
A bad debt deduction may be available to a guarantor that suffers a loss by reason of performance of the guarantee. In general, where a taxpayer guarantees the debt obligation of another person in the course of the taxpayer’s trade or business, and latter makes a payment as guarantor, the payment is treated under IRC §166 (relating to bad debt deductions) as a debt that became worthless in the year in which the payment is made, or, if the taxpayer had a right of subrogation against the original debtor, in the year in which the right of subrogation becomes worthless (see Treasury Reg. §1.166-9).
The appropriate tax treatment is less clear where a taxpayer makes a payment not in respect of a guarantee of another person’s debt obligation, but, rather, by reason of a guarantee of performance of some other sort of contractual obligation of another person. In Baker Hughes Incorporated v. United States, 943 F.3d 255 (2019), a recent decision by the U.S. Court of Appeals for the Fifth Circuit affirming a district court decision, a deduction was disallowed for an expenditure that was at least arguably of this nature.
Facts in ‘Baker Hughes’
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