Form 8949 for bad debt - need to attach supporting documents

[mikeynyc123]

I made a loan to an LLC for a real estate project. The LLC was unable to pay back the loan and part of the loan has permanently lost principal. As per Turbotax guide: https://turbotax.intuit.com/tax-tips/irs-tax-return/how-to-report-non-business-bad-debt-on-a-tax-ret...

It says that we can report the loss on Form 8949 Sales and Other Disposition of Capital Assets. However, the guide also says that we are required to attach a bad-debt statement to my tax returning, explaining the details of the loan I made. 

Questions:

1) How can I attach a supporting bad debt statement to my tax return using turbotax desktop version, home and business?

2) How much of the loan can I write off in a year, and can I write it off against w2 income or only against capital gains? 

Thanks much!

[ThomasM125]

You can use the TurboTax desktop program to access the Nonbusiness Bad Debt Explanation statement that you can digitally attach to your tax return. You will find it in the Forms menu option by clicking on the Open Form option and typing in the name of the statement. The loss is a short-term capital loss that is available to offset capital gains and then up to $3,000 of ordinary income (W-2 income) per year.   

[mikeynyc123]

How do I create a NEW form 8949?  When I click in forms view under turbotax desktop, it says forms 8949 are created automatically, based on schedule D input. However, this will be for a bad debt that I don't have a schedule D document for. I also don't see where I can add an attachment. 

[mikeynyc123]

Also, there is no place I can ATTACH supporting documents, there is only a place for me to TYPE in an explanation. I would like to attach a document to the tax return. Could you please help? Thanks

[JamesG1]

In TurboTax CD/Download Home and Business, create the form 8949 by following these steps:

• In step-by-step mode, across the top of the screen, click Personal.
• Across the top of the screen, click Personal Income.
• Select i'll choose what I work on.
• Scroll down to Investment Income.
• Select Start / Update to the right of Stocks, Mutual Funds, Bonds, Other.
• At the screen Did you sell investments in 2022, select Yes.
• At the screen Did you get a 1099-B, select No.
• At the screen Tell us about this sale, select I'll enter one sale at a time.  Click Continue.
• At the screen Tell us about this sale, enter investment information.  Click Continue.

Click on FORMS in the right hand corner of the screen to view IRS form 8949 and Schedule D Capital Gains and Losses.

If attached documents must accompany the tax return, the return may need to be mailed by US mail.

@mikeynyc123 

[mikeynyc123]

Does an attachment need to accompany form 8949 for nonbusiness bad debt? 

If not, how detailed do the explanations need to be in that form? Please advise.

Thanks

[GeorgeM777]

Yes, it does need to be attached.  Regarding your situation, there are two types of bad debts, business and nonbusiness.  It appears you have taken the position that your debt is non-business, consequently, nonbusiness bad debts must be totally worthless to be deductible. You can't deduct a partially worthless nonbusiness bad debt.  However, in your post, it appears that only part of your debt has become worthless. Thus, you may not meet the requirements to include this debt on Form 8949 if in fact only part of it remains worthless.  

Regarding your question as to what the attached statement must contain, the IRS provides the following:

A deduction for a nonbusiness bad debt requires a separate detailed statement attached to your return. The statement must contain: a description of the debt, including the amount and the date it became due; the name of the debtor, and any business or family relationship between you and the debtor; the efforts you made to collect the debt; and why you decided the debt was worthless.

Here is the link to the IRS webpage that discusses bad debt deductions where you can find more information about the difference between business and nonbusiness bad debt and how deductions are handled for each type of debt.

Topic No. 453_Bad Debt Deduction

@mikeynyc123 

[mikeynyc123]

@GeorgeM777 

Thanks for the response George. It is very unfortunate that turbotax does not allow for the attachment of supporting documents, when it is required for this form. Do you know of any other tax software that would allow me to attach and file digitally and not have to mail everything? Will it be a major audit risk if I don't attach a supporting document for this loss claim? What other approaches could you use. 

Is there any other way I can reflect this loan loss in my personal taxes?

I made two loans. One has permanently lost all principal. The other loan has repaid some recovery but 80% of the loan is permanently lost. Can I claim as a short term capital loss the 80% of the second loan that is permanently lost? 

Is there a way I can classify this as a business bad debt? Maybe as a lender, since I made 5 loans to this company and it relates to real estate, and I have some real estate rental properties as well? Wondering what strategies I can use  to maximize deductions for these loan losses, particularly against active w2 income.

Thanks!

[GeorgeM777]

We are not aware of other tax software where you can electronically upload the required statement describing the details of the bad debt.  This does not mean such software does not exist, it is just that we are not aware of any.  

It appears from your post that both debts are now worthless, but then again, if you must defend your position that the debts are worthless, the burden rests with you.  In other words, you need to prove your case with documents, which could include sworn affidavits from witnesses.  Admittedly, this is not an easy burden and arguably, the greater the debt which appears to be now worthless, the greater the audit risk.  

In terms of recharacterizes your loans as something else, such as an equity investment, for that you will need to discuss the matter with your personal tax advisor.  The question you raise is a good one because loans, depending on the facts, can be characterized as investments, but here again it requires the thoughtful analysis of another professional and is beyond the scope of advice we can provide. 

@mikeynyc123 

[mikeynyc123]

Could you please have turbotax add this functionality of attaching proof documents in electronic filings? Otherwise it seems a big part of the functionality is missing.

Also, could you please advise on some approaches or which forms I can use to explore looking into reclassifying the debt as an investment? Also any tips on how to maximize the ability to deduct against active w2 income would be much appreciated. Thanks