A Taxpayer Guarantees Another Person's Obligation and Is Forced to Pay
A taxpayer guarantees another person's obligation and is forced to pay the debt under the terms of the guarantee.The original debtor does not repay the taxpayer.The taxpayer/guarantor may deduct the loss.
Lisa loans her friend,Grace,$10,000 to finance a new business.If Grace defaults on the loan,Lisa may take a deduction for a business bad debt in the year of total worthlessness.
A business bad debt gives rise to an ordinary deduction while a nonbusiness bad debt is treated as a short-term capital loss.
No deduction is allowed for a partially worthless nonbusiness debt.