U.S. Tax Court Says that Auto Finance Company’s Charge-off of Post-Repossession Debt was Taxable Income to California Debtor

In Clark v. C.I.R., 2015 WL 5243760, at *2 (U.S.Tax Ct.,2015), Judge Cohen held that an automobile finance company’s charge-off of a post-repossession deficiency was taxable income to a debtor.  The facts were as follows, and were not uncommon.

Petitioner resided in California when she filed her petition.  On December 22, 1999, petitioner entered into a retail installment contract with an automobile dealership to purchase a used 1996 vehicle for $13,547. Petitioner made a downpayment of $1,000 and financed the remaining $12,547 at an annual rate of 21.5%, which resulted in a projected total sale price of $21,578.20. The contract required 60 monthly payments over five years starting January 21, 2000, and it included terms regarding late fees and the buyer’s promise to pay.  The contract also provided as follows:  Sale of Repossessed Vehicle.  If Seller repossesses the Vehicle, Seller can sell it and apply the money received to what Buyer owes. The sale will be governed by the Uniform Commercial Code and other applicable laws. If Seller repossesses or accepts the voluntary surrender of the Vehicle and the original price was $500.00 or more, and the balance remaining unpaid at the time of default is $300.00 or more, Buyer will be liable for any [*3] deficiency incurred as a result of the sale or disposition of the Vehicle and Seller has the right to a deficiency judgment.  The contract also included a provision regarding the seller’s ability to assign all rights of the contract and included Frank Leta Honda’s assignment of the contract—without recourse—to AmeriCredit. As the buyer, petitioner signed the contract, agreeing with all of its terms.  By 2005 petitioner had defaulted under the terms of the contract. The vehicle was repossessed on March 21, 2005, and sold for $1,300 at an auction on June 16, 2005. The proceeds from the auction were applied to petitioner’s account on June 20, 2005. However, petitioner still owed $4,768.79 on the contract and $743.50 for collection expenses and late fees. AmeriCredit sent to petitioner a letter dated June 27, 2005, notifying her of the remaining amount owed and requesting that she make contact about payment before it resorted to debt recovery. The outstanding principal balance was $4,496.71 as of July 6, 2005.  AmeriCredit attempted to collect petitioner’s debt and, over time, assigned it to five separate third-party debt collectors. The first debt collection agency was assigned petitioner’s debt on May 18, 2006, and returned the assignment uncollected on September 22, 2006. The other four collection agencies experienced the same lack of success over the next four-plus years, with the last [*4] debt collection agency returning the assignment as uncollectible on June 29, 2011.  AmeriCredit determined petitioner’s chargeoff balance to be $4,602.46. It reported on Form 1099–C, Cancellation of Debt, that petitioner’s debt of $4,496.71 (the outstanding principal balance) was discharged on August 25, 2011. The Form 1099–C indicated that petitioner was personally liable for the repayment of the debt. The copy of Form 1099–C sent to petitioner was returned [to sender, address unknown].

The Tax Court found the post-repossession deficiency charge-off to be taxable income to the debtor.

The issue remaining for decision is whether petitioner had discharge of indebtedness income from AmeriCredit for 2011. Income from discharge of indebtedness (also called cancellation of debt) is included in the general definition of gross income. Sec. 61(a)(12). The concept of discharge of indebtedness income is that a taxpayer has realized an accession to income—to the extent that she has been released from indebtedness—because assets previously offset by the [*5] liability arising from the indebtedness have been freed. Cozzi v. Commissioner, 88 T.C. 435, 445 (1987) (citing United States v. Kirby Lumber Co., 284 U.S.1 (1931)).  Where an information return, such as Form 1099–C, serves as the basis for the determination of a deficiency, the burden of production may shift to the Commissioner. See sec. 6201(d); Del Monico v. Commissioner, T.C. Memo.2004–92. If a taxpayer in a court proceeding asserts a reasonable dispute with respect to any item of income reported on an information return and has fully cooperated, then the Commissioner must produce reasonable and probative information concerning the deficiency in addition to the information return. Sec. 6201(d).  In her petition, petitioner alleged that AmeriCredit had received the full value of the vehicle when it was repossessed. She later alleged that the debt was nonrecourse, indicating that repossession of the vehicle would have satisfied it. Petitioner therefore disputes the cancellation of debt income.  In addition to the Form 1099–C, respondent produced evidence of petitioner’s account payment history with AmeriCredit that showed an outstanding principal balance of $4,496.71 and a chargeoff balance of $4,602.46. Respondent also provided a copy of the installment contract, which stated that the seller (and [*6] assignee) had the right to a deficiency judgment where the balance remaining unpaid at the time of default was $300 or more; thus the debt was recourse. Respondent’s burden of production under section 6201(d), if that section applies, has been met.  Petitioner also argues that she was not notified that any debt had been discharged. The nonreceipt of a Form 1099–C, however, does not convert taxable income into nontaxable income. See Rinehart v.. Commissioner, T.C. Memo.2002–71, slip op. at 6.