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Problem 5-56 (LO. 4, 5) Fran, who is in the 35% tax bracket, recently collected $100,000...

Problem 5-56 (LO. 4, 5)

Fran, who is in the 35% tax bracket, recently collected $100,000 on a life insurance policy she carried on her father. She currently owes $120,000 on her personal residence and $120,000 on business property. National Bank holds the mortgage on both pieces of property and has agreed to accept $100,000 in complete satisfaction of either mortgage. The interest rate on the mortgages is 8%, and both mortgages are payable over 10 years. What would be the tax consequences of each of the following alternatives assuming that Fran currently deducts the mortgage interest on her tax return?

Indicate whether the following statements are "True" or "False" regarding the tax consequences for Fran of each scenario.

a. Tax consequences of retiring the mortgage on the residence:

If Fran retires the debt on the residence, she must recognize $20,000 as income from discharge of indebtedness.
Fran qualifies for the exclusion for cancellation of debt on a personal residence.

b. Tax consequences of retiring the mortgage on the business property:

Fran must recognize $20,000 income due to forgiveness of the business debt.
Fran can choose to reduce her basis in the business assets instead of recognizing $20,000 income, assuming the liability is qualified business indebtedness.

c. If minimizing current taxes is Fran's main objective, which alternative should she select?

Retire the mortgage on the residence
Retire the mortgage on the business property

Expert Solution

a. Tax consequences of retiring the mortgage on the residence:

If Fran retires the debt on the residence, she must recognize $20,000 as income from discharge of indebtedness. True

Fran qualifies for the exclusion for cancellation of debt on a personal residence. False

b. Tax consequences of retiring the mortgage on the business property:

Fran must recognize $20,000 income due to forgiveness of the business debt. False

Fran can choose to reduce her basis in the business assets instead of recognizing $20,000 income, assuming the liability is qualified business indebtedness. True

c .If minimizing current taxes is Fran's main objective, which alternative should she select?

Retire the mortgage on the residence False
Retire the mortgage on the business property True

ekkarill92 answered 2 years ago

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