Tax Experts
When a Small Business Investment Goes Bad
By Kevin McCormally, Editorial Director, Kiplinger.com
April 2, 2008
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Q: I loaned money to a small business that went belly up. How do I write off this bad loan? I have the loan agreement and the bankruptcy documents to prove the transactions. -- Greg D.
Kevin's Answer:
Sounds like you qualify for a bad debt deduction.
The key is that you can prove that a true debtor-creditor relationship existed and that you fully expected to be repaid. You also have to be able to show that the debt became worthless in the year that you’re claiming the deduction. The bankruptcy papers should meet that test.
You treat the bad debt as a capital loss and deduct it on Schedule D. As with other capital losses, bad debts are deducted first against capital gains and then against up to $3,000 of ordinary income.
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