26 U.S.C. § 108 : US Code - Section 108: Income from discharge of indebtedness

Search 26 U.S.C. § 108 : US Code - Section 108: Income from discharge of indebtedness

    (a) Exclusion from gross income
      (1) In general
        Gross income does not include any amount which (but for this
      subsection) would be includible in gross income by reason of the
      discharge (in whole or in part) of indebtedness of the taxpayer
      if - 
          (A) the discharge occurs in a title 11 case,
          (B) the discharge occurs when the taxpayer is insolvent,
          (C) the indebtedness discharged is qualified farm
        indebtedness,
          (D) in the case of a taxpayer other than a C corporation, the
        indebtedness discharged is qualified real property business
        indebtedness, or
          (E) the indebtedness discharged is qualified principal
        residence indebtedness which is discharged before January 1,
        2013.
      (2) Coordination of exclusions
        (A) Title 11 exclusion takes precedence
          Subparagraphs (B), (C), (D), and (E) of paragraph (1) shall
        not apply to a discharge which occurs in a title 11 case.
        (B) Insolvency exclusion takes precedence over qualified farm
          exclusion and qualified real property business exclusion
          Subparagraphs (C) and (D) of paragraph (1) shall not apply to
        a discharge to the extent the taxpayer is insolvent.
        (C) Principal residence exclusion takes precedence over
          insolvency exclusion unless elected otherwise
          Paragraph (1)(B) shall not apply to a discharge to which
        paragraph (1)(E) applies unless the taxpayer elects to apply
        paragraph (1)(B) in lieu of paragraph (1)(E).
      (3) Insolvency exclusion limited to amount of insolvency
        In the case of a discharge to which paragraph (1)(B) applies,
      the amount excluded under paragraph (1)(B) shall not exceed the
      amount by which the taxpayer is insolvent.
    (b) Reduction of tax attributes
      (1) In general
        The amount excluded from gross income under subparagraph (A),
      (B), or (C) of subsection (a)(1) shall be applied to reduce the
      tax attributes of the taxpayer as provided in paragraph (2).
      (2) Tax attributes affected; order of reduction
        Except as provided in paragraph (5), the reduction referred to
      in paragraph (1) shall be made in the following tax attributes in
      the following order:
        (A) NOL
          Any net operating loss for the taxable year of the discharge,
        and any net operating loss carryover to such taxable year.
        (B) General business credit
          Any carryover to or from the taxable year of a discharge of
        an amount for purposes for determining the amount allowable as
        a credit under section 38 (relating to general business
        credit).
        (C) Minimum tax credit
          The amount of the minimum tax credit available under section
        53(b) as of the beginning of the taxable year immediately
        following the taxable year of the discharge.
        (D) Capital loss carryovers
          Any net capital loss for the taxable year of the discharge,
        and any capital loss carryover to such taxable year under
        section 1212.
        (E) Basis reduction
          (i) In general
            The basis of the property of the taxpayer.
          (ii) Cross reference
            For provisions for making the reduction described in clause
          (i), see section 1017.
        (F) Passive activity loss and credit carryovers
          Any passive activity loss or credit carryover of the taxpayer
        under section 469(b) from the taxable year of the discharge.
        (G) Foreign tax credit carryovers
          Any carryover to or from the taxable year of the discharge
        for purposes of determining the amount of the credit allowable
        under section 27.
      (3) Amount of reduction
        (A) In general
          Except as provided in subparagraph (B), the reductions
        described in paragraph (2) shall be one dollar for each dollar
        excluded by subsection (a).
        (B) Credit carryover reduction
          The reductions described in subparagraphs (B), (C), and (G)
        shall be 33 1/3  cents for each dollar excluded by subsection
        (a). The reduction described in subparagraph (F) in any passive
        activity credit carryover shall be 33 1/3  cents for each
        dollar excluded by subsection (a).
      (4) Ordering rules
        (A) Reductions made after determination of tax for year
          The reductions described in paragraph (2) shall be made after
        the determination of the tax imposed by this chapter for the
        taxable year of the discharge.
        (B) Reductions under subparagraph (A) or (D) of paragraph (2)
          The reductions described in subparagraph (A) or (D) of
        paragraph (2) (as the case may be) shall be made first in the
        loss for the taxable year of the discharge and then in the
        carryovers to such taxable year in the order of the taxable
        years from which each such carryover arose.
        (C) Reductions under subparagraphs (B) and (G) of paragraph (2)
          The reductions described in subparagraphs (B) and (G) of
        paragraph (2) shall be made in the order in which carryovers
        are taken into account under this chapter for the taxable year
        of the discharge.
      (5) Election to apply reduction first against depreciable
        property
        (A) In general
          The taxpayer may elect to apply any portion of the reduction
        referred to in paragraph (1) to the reduction under section
        1017 of the basis of the depreciable property of the taxpayer.
        (B) Limitation
          The amount to which an election under subparagraph (A)
        applies shall not exceed the aggregate adjusted bases of the
        depreciable property held by the taxpayer as of the beginning
        of the taxable year following the taxable year in which the
        discharge occurs.
        (C) Other tax attributes not reduced
          Paragraph (2) shall not apply to any amount to which an
        election under this paragraph applies.
    (c) Treatment of discharge of qualified real property business
      indebtedness
      (1) Basis reduction
        (A) In general
          The amount excluded from gross income under subparagraph (D)
        of subsection (a)(1) shall be applied to reduce the basis of
        the depreciable real property of the taxpayer.
        (B) Cross reference
          For provisions making the reduction described in subparagraph
        (A), see section 1017.
      (2) Limitations
        (A) Indebtedness in excess of value
          The amount excluded under subparagraph (D) of subsection
        (a)(1) with respect to any qualified real property business
        indebtedness shall not exceed the excess (if any) of - 
            (i) the outstanding principal amount of such indebtedness
          (immediately before the discharge), over
            (ii) the fair market value of the real property described
          in paragraph (3)(A) (as of such time), reduced by the
          outstanding principal amount of any other qualified real
          property business indebtedness secured by such property (as
          of such time).
        (B) Overall limitation
          The amount excluded under subparagraph (D) of subsection
        (a)(1) shall not exceed the aggregate adjusted bases of
        depreciable real property (determined after any reductions
        under subsections (b) and (g)) held by the taxpayer immediately
        before the discharge (other than depreciable real property
        acquired in contemplation of such discharge).
      (3) Qualified real property business indebtedness
        The term "qualified real property business indebtedness" means
      indebtedness which - 
          (A) was incurred or assumed by the taxpayer in connection
        with real property used in a trade or business and is secured
        by such real property,
          (B) was incurred or assumed before January 1, 1993, or if
        incurred or assumed on or after such date, is qualified
        acquisition indebtedness, and
          (C) with respect to which such taxpayer makes an election to
        have this paragraph apply.

      Such term shall not include qualified farm indebtedness.
      Indebtedness under subparagraph (B) shall include indebtedness
      resulting from the refinancing of indebtedness under subparagraph
      (B) (or this sentence), but only to the extent it does not exceed
      the amount of the indebtedness being refinanced.
      (4) Qualified acquisition indebtedness
        For purposes of paragraph (3)(B), the term "qualified
      acquisition indebtedness" means, with respect to any real
      property described in paragraph (3)(A), indebtedness incurred or
      assumed to acquire, construct, reconstruct, or substantially
      improve such property.
      (5) Regulations
        The Secretary shall issue such regulations as are necessary to
      carry out this subsection, including regulations preventing the
      abuse of this subsection through cross-collateralization or other
      means.
    (d) Meaning of terms; special rules relating to certain provisions
      (1) Indebtedness of taxpayer
        For purposes of this section, the term "indebtedness of the
      taxpayer" means any indebtedness - 
          (A) for which the taxpayer is liable, or
          (B) subject to which the taxpayer holds property.
      (2) Title 11 case
        For purposes of this section, the term "title 11 case" means a
      case under title 11 of the United States Code (relating to
      bankruptcy), but only if the taxpayer is under the jurisdiction
      of the court in such case and the discharge of indebtedness is
      granted by the court or is pursuant to a plan approved by the
      court.
      (3) Insolvent
        For purposes of this section, the term "insolvent" means the
      excess of liabilities over the fair market value of assets. With
      respect to any discharge, whether or not the taxpayer is
      insolvent, and the amount by which the taxpayer is insolvent,
      shall be determined on the basis of the taxpayer's assets and
      liabilities immediately before the discharge.
      [(4) Repealed. Pub. L. 99-514, title VIII, Sec. 822(b)(3)(A),
        Oct. 22, 1986, 100 Stat. 2373]
      (5) Depreciable property
        The term "depreciable property" has the same meaning as when
      used in section 1017.
      (6) Certain provisions to be applied at partner level
        In the case of a partnership, subsections (a), (b), (c), and
      (g) shall be applied at the partner level.
      (7) Special rules for S corporation
        (A) Certain provisions to be applied at corporate level
          In the case of an S corporation, subsections (a), (b), (c),
        and (g) shall be applied at the corporate level, including by
        not taking into account under section 1366(a) any amount
        excluded under subsection (a) of this section.
        (B) Reduction in carryover of disallowed losses and deductions
          In the case of an S corporation, for purposes of subparagraph
        (A) of subsection (b)(2), any loss or deduction which is
        disallowed for the taxable year of the discharge under section
        1366(d)(1) shall be treated as a net operating loss for such
        taxable year. The preceding sentence shall not apply to any
        discharge to the extent that subsection (a)(1)(D) applies to
        such discharge.
        (C) Coordination with basis adjustments under section
          1367(b)(2)
          For purposes of subsection (e)(6), a shareholder's adjusted
        basis in indebtedness of an S corporation shall be determined
        without regard to any adjustments made under section
        1367(b)(2).
      (8) Reductions of tax attributes in title 11 cases of individuals
        to be made by estate
        In any case under chapter 7 or 11 of title 11 of the United
      States Code to which section 1398 applies, for purposes of
      paragraphs (1) and (5) of subsection (b) the estate (and not the
      individual) shall be treated as the taxpayer. The preceding
      sentence shall not apply for purposes of applying section 1017 to
      property transferred by the estate to the individual.
      (9) Time for making election, etc.
        (A) Time
          An election under paragraph (5) of subsection (b) or under
        paragraph (3)(C) of subsection (c) shall be made on the
        taxpayer's return for the taxable year in which the discharge
        occurs or at such other time as may be permitted in regulations
        prescribed by the Secretary.
        (B) Revocation only with consent
          An election referred to in subparagraph (A), once made, may
        be revoked only with the consent of the Secretary.
        (C) Manner
          An election referred to in subparagraph (A) shall be made in
        such manner as the Secretary may by regulations prescribe.
      (10) Cross reference
          For provision that no reduction is to be made in the basis of
        exempt property of an individual debtor, see section
        1017(c)(1).
    (e) General rules for discharge of indebtedness (including
      discharges not in title 11 cases or insolvency)
      For purposes of this title - 
      (1) No other insolvency exception
        Except as otherwise provided in this section, there shall be no
      insolvency exception from the general rule that gross income
      includes income from the discharge of indebtedness.
      (2) Income not realized to extent of lost deductions
        No income shall be realized from the discharge of indebtedness
      to the extent that payment of the liability would have given rise
      to a deduction.
      (3) Adjustments for unamortized premium and discount
        The amount taken into account with respect to any discharge
      shall be properly adjusted for unamortized premium and
      unamortized discount with respect to the indebtedness discharged.
      (4) Acquisition of indebtedness by person related to debtor
        (A) Treated as acquisition by debtor
          For purposes of determining income of the debtor from
        discharge of indebtedness, to the extent provided in
        regulations prescribed by the Secretary, the acquisition of
        outstanding indebtedness by a person bearing a relationship to
        the debtor specified in section 267(b) or 707(b)(1) from a
        person who does not bear such a relationship to the debtor
        shall be treated as the acquisition of such indebtedness by the
        debtor. Such regulations shall provide for such adjustments in
        the treatment of any subsequent transactions involving the
        indebtedness as may be appropriate by reason of the application
        of the preceding sentence.
        (B) Members of family
          For purposes of this paragraph, sections 267(b) and 707(b)(1)
        shall be applied as if section 267(c)(4) provided that the
        family of an individual consists of the individual's spouse,
        the individual's children, grandchildren, and parents, and any
        spouse of the individual's children or grandchildren.
        (C) Entities under common control treated as related
          For purposes of this paragraph, two entities which are
        treated as a single employer under subsection (b) or (c) of
        section 414 shall be treated as bearing a relationship to each
        other which is described in section 267(b).
      (5) Purchase-money debt reduction for solvent debtor treated as
        price reduction
        If - 
          (A) the debt of a purchaser of property to the seller of such
        property which arose out of the purchase of such property is
        reduced,
          (B) such reduction does not occur - 
            (i) in a title 11 case, or
            (ii) when the purchaser is insolvent, and

          (C) but for this paragraph, such reduction would be treated
        as income to the purchaser from the discharge of indebtedness,

      then such reduction shall be treated as a purchase price
      adjustment.
      (6) Indebtedness contributed to capital
        Except as provided in regulations, for purposes of determining
      income of the debtor from discharge of indebtedness, if a debtor
      corporation acquires its indebtedness from a shareholder as a
      contribution to capital - 
          (A) section 118 shall not apply, but
          (B) such corporation shall be treated as having satisfied the
        indebtedness with an amount of money equal to the shareholder's
        adjusted basis in the indebtedness.
      (7) Recapture of gain on subsequent sale of stock
        (A) In general
          If a creditor acquires stock of a debtor corporation in
        satisfaction of such corporation's indebtedness, for purposes
        of section 1245 - 
            (i) such stock (and any other property the basis of which
          is determined in whole or in part by reference to the
          adjusted basis of such stock) shall be treated as section
          1245 property,
            (ii) the aggregate amount allowed to the creditor - 
              (I) as deductions under subsection (a) or (b) of section
            166 (by reason of the worthlessness or partial
            worthlessness of the indebtedness), or
              (II) as an ordinary loss on the exchange,

          shall be treated as an amount allowed as a deduction for
          depreciation, and
            (iii) an exchange of such stock qualifying under section
          354(a), 355(a), or 356(a) shall be treated as an exchange to
          which section 1245(b)(3) applies.

        The amount determined under clause (ii) shall be reduced by the
        amount (if any) included in the creditor's gross income on the
        exchange.
        (B) Special rule for cash basis taxpayers
          In the case of any creditor who computes his taxable income
        under the cash receipts and disbursements method, proper
        adjustment shall be made in the amount taken into account under
        clause (ii) of subparagraph (A) for any amount which was not
        included in the creditor's gross income but which would have
        been included in such gross income if such indebtedness had
        been satisfied in full.
        (C) Stock of parent corporation
          For purposes of this paragraph, stock of a corporation in
        control (within the meaning of section 368(c)) of the debtor
        corporation shall be treated as stock of the debtor
        corporation.
        (D) Treatment of successor corporation
          For purposes of this paragraph, the term "debtor corporation"
        includes a successor corporation.
        (E) Partnership rule
          Under regulations prescribed by the Secretary, rules similar
        to the rules of the foregoing subparagraphs of this paragraph
        shall apply with respect to the indebtedness of a partnership.
      (8) Indebtedness satisfied by corporate stock or partnership
        interest
        For purposes of determining income of a debtor from discharge
      of indebtedness, if - 
          (A) a debtor corporation transfers stock, or
          (B) a debtor partnership transfers a capital or profits
        interest in such partnership,

      to a creditor in satisfaction of its recourse or nonrecourse
      indebtedness, such corporation or partnership shall be treated as
      having satisfied the indebtedness with an amount of money equal
      to the fair market value of the stock or interest. In the case of
      any partnership, any discharge of indebtedness income recognized
      under this paragraph shall be included in the distributive shares
      of taxpayers which were the partners in the partnership
      immediately before such discharge.
      (9) Discharge of indebtedness income not taken into account in
        determining whether entity meets REIT qualifications
        Any amount included in gross income by reason of the discharge
      of indebtedness shall not be taken into account for purposes of
      paragraphs (2) and (3) of section 856(c).
      (10) Indebtedness satisfied by issuance of debt instrument
        (A) In general
          For purposes of determining income of a debtor from discharge
        of indebtedness, if a debtor issues a debt instrument in
        satisfaction of indebtedness, such debtor shall be treated as
        having satisfied the indebtedness with an amount of money equal
        to the issue price of such debt instrument.
        (B) Issue price
          For purposes of subparagraph (A), the issue price of any debt
        instrument shall be determined under sections 1273 and 1274.
        For purposes of the preceding sentence, section 1273(b)(4)
        shall be applied by reducing the stated redemption price of any
        instrument by the portion of such stated redemption price which
        is treated as interest for purposes of this chapter.
    (f) Student loans
      (1) In general
        In the case of an individual, gross income does not include any
      amount which (but for this subsection) would be includible in
      gross income by reason of the discharge (in whole or in part) of
      any student loan if such discharge was pursuant to a provision of
      such loan under which all or part of the indebtedness of the
      individual would be discharged if the individual worked for a
      certain period of time in certain professions for any of a broad
      class of employers.
      (2) Student loan
        For purposes of this subsection, the term "student loan" means
      any loan to an individual to assist the individual in attending
      an educational organization described in section 170(b)(1)(A)(ii)
      made by - 
          (A) the United States, or an instrumentality or agency
        thereof,
          (B) a State, territory, or possession of the United States,
        or the District of Columbia, or any political subdivision
        thereof,
          (C) a public benefit corporation - 
            (i) which is exempt from taxation under section 501(c)(3),
            (ii) which has assumed control over a State, county, or
          municipal hospital, and
            (iii) whose employees have been deemed to be public
          employees under State law, or

          (D) any educational organization described in section
        170(b)(1)(A)(ii) if such loan is made - 
            (i) pursuant to an agreement with any entity described in
          subparagraph (A), (B), or (C) under which the funds from
          which the loan was made were provided to such educational
          organization, or
            (ii) pursuant to a program of such educational organization
          which is designed to encourage its students to serve in
          occupations with unmet needs or in areas with unmet needs and
          under which the services provided by the students (or former
          students) are for or under the direction of a governmental
          unit or an organization described in section 501(c)(3) and
          exempt from tax under section 501(a).

      The term "student loan" includes any loan made by an educational
      organization described in section 170(b)(1)(A)(ii) or by an
      organization exempt from tax under section 501(a) to refinance a
      loan to an individual to assist the individual in attending any
      such educational organization but only if the refinancing loan is
      pursuant to a program of the refinancing organization which is
      designed as described in subparagraph (D)(ii).
      (3) Exception for discharges on account of services performed for
        certain lenders
        Paragraph (1) shall not apply to the discharge of a loan made
      by an organization described in paragraph (2)(D) if the discharge
      is on account of services performed for either such organization.
      (4) Payments under national health service corps loan repayment
        program and certain state loan repayment programs
        In the case of an individual, gross income shall not include
      any amount received under section 338B(g) of the Public Health
      Service Act, under a State program described in section 338I of
      such Act, or under any other State loan repayment or loan
      forgiveness program that is intended to provide for the increased
      availability of health care services in underserved or health
      professional shortage areas (as determined by such State).
    (g) Special rules for discharge of qualified farm indebtedness
      (1) Discharge must be by qualified person
        (A) In general
          Subparagraph (C) of subsection (a)(1) shall apply only if the
        discharge is by a qualified person.
        (B) Qualified person
          For purposes of subparagraph (A), the term "qualified person"
        has the meaning given to such term by section 49(a)(1)(D)(iv);
        except that such term shall include any Federal, State, or
        local government or agency or instrumentality thereof.
      (2) Qualified farm indebtedness
        For purposes of this section, indebtedness of a taxpayer shall
      be treated as qualified farm indebtedness if - 
          (A) such indebtedness was incurred directly in connection
        with the operation by the taxpayer of the trade or business of
        farming, and
          (B) 50 percent or more of the aggregate gross receipts of the
        taxpayer for the 3 taxable years preceding the taxable year in
        which the discharge of such indebtedness occurs is attributable
        to the trade or business of farming.
      (3) Amount excluded cannot exceed sum of tax attributes and
        business and investment assets
        (A) In general
          The amount excluded under subparagraph (C) of subsection
        (a)(1) shall not exceed the sum of - 
            (i) the adjusted tax attributes of the taxpayer, and
            (ii) the aggregate adjusted bases of qualified property
          held by the taxpayer as of the beginning of the taxable year
          following the taxable year in which the discharge occurs.
        (B) Adjusted tax attributes
          For purposes of subparagraph (A), the term "adjusted tax
        attributes" means the sum of the tax attributes described in
        subparagraphs (A), (B), (C), (D), (F), and (G) of subsection
        (b)(2) determined by taking into account $3 for each $1 of the
        attributes described in subparagraphs (B), (C), and (G) of
        subsection (b)(2) and the attribute described in subparagraph
        (F) of subsection (b)(2) to the extent attributable to any
        passive activity credit carryover.
        (C) Qualified property
          For purposes of this paragraph, the term "qualified property"
        means any property which is used or is held for use in a trade
        or business or for the production of income.
        (D) Coordination with insolvency exclusion
          For purposes of this paragraph, the adjusted basis of any
        qualified property and the amount of the adjusted tax
        attributes shall be determined after any reduction under
        subsection (b) by reason of amounts excluded from gross income
        under subsection (a)(1)(B).
    (h) Special rules relating to qualified principal residence
      indebtedness
      (1) Basis reduction
        The amount excluded from gross income by reason of subsection
      (a)(1)(E) shall be applied to reduce (but not below zero) the
      basis of the principal residence of the taxpayer.
      (2) Qualified principal residence indebtedness
        For purposes of this section, the term "qualified principal
      residence indebtedness" means acquisition indebtedness (within
      the meaning of section 163(h)(3)(B), applied by substituting
      "$2,000,000 ($1,000,000" for "$1,000,000 ($500,000" in clause
      (ii) thereof) with respect to the principal residence of the
      taxpayer.
      (3) Exception for certain discharges not related to taxpayer's
        financial condition
        Subsection (a)(1)(E) shall not apply to the discharge of a loan
      if the discharge is on account of services performed for the
      lender or any other factor not directly related to a decline in
      the value of the residence or to the financial condition of the
      taxpayer.
      (4) Ordering rule
        If any loan is discharged, in whole or in part, and only a
      portion of such loan is qualified principal residence
      indebtedness, subsection (a)(1)(E) shall apply only to so much of
      the amount discharged as exceeds the amount of the loan (as
      determined immediately before such discharge) which is not
      qualified principal residence indebtedness.
      (5) Principal residence
        For purposes of this subsection, the term "principal residence"
      has the same meaning as when used in section 121.
    (i) Deferral and ratable inclusion of income arising from business
      indebtedness discharged by the reacquisition of a debt instrument
      (1) In general
        At the election of the taxpayer, income from the discharge of
      indebtedness in connection with the reacquisition after December
      31, 2008, and before January 1, 2011, of an applicable debt
      instrument shall be includible in gross income ratably over the 5-
      taxable-year period beginning with - 
          (A) in the case of a reacquisition occurring in 2009, the
        fifth taxable year following the taxable year in which the
        reacquisition occurs, and
          (B) in the case of a reacquisition occurring in 2010, the
        fourth taxable year following the taxable year in which the
        reacquisition occurs.
      (2) Deferral of deduction for original issue discount in debt for
        debt exchanges
        (A) In general
          If, as part of a reacquisition to which paragraph (1)
        applies, any debt instrument is issued for the applicable debt
        instrument being reacquired (or is treated as so issued under
        subsection (e)(4) and the regulations thereunder) and there is
        any original issue discount determined under subpart A of part
        V of subchapter P of this chapter with respect to the debt
        instrument so issued - 
            (i) except as provided in clause (ii), no deduction
          otherwise allowable under this chapter shall be allowed to
          the issuer of such debt instrument with respect to the
          portion of such original issue discount which - 
              (I) accrues before the 1st taxable year in the 5-taxable-
            year period in which income from the discharge of
            indebtedness attributable to the reacquisition of the debt
            instrument is includible under paragraph (1), and
              (II) does not exceed the income from the discharge of
            indebtedness with respect to the debt instrument being
            reacquired, and

            (ii) the aggregate amount of deductions disallowed under
          clause (i) shall be allowed as a deduction ratably over the 5-
          taxable-year period described in clause (i)(I).

        If the amount of the original issue discount accruing before
        such 1st taxable year exceeds the income from the discharge of
        indebtedness with respect to the applicable debt instrument
        being reacquired, the deductions shall be disallowed in the
        order in which the original issue discount is accrued.
        (B) Deemed debt for debt exchanges
          For purposes of subparagraph (A), if any debt instrument is
        issued by an issuer and the proceeds of such debt instrument
        are used directly or indirectly by the issuer to reacquire an
        applicable debt instrument of the issuer, the debt instrument
        so issued shall be treated as issued for the debt instrument
        being reacquired. If only a portion of the proceeds from a debt
        instrument are so used, the rules of subparagraph (A) shall
        apply to the portion of any original issue discount on the
        newly issued debt instrument which is equal to the portion of
        the proceeds from such instrument used to reacquire the
        outstanding instrument.
      (3) Applicable debt instrument
        For purposes of this subsection - 
        (A) Applicable debt instrument
          The term "applicable debt instrument" means any debt
        instrument which was issued by - 
            (i) a C corporation, or
            (ii) any other person in connection with the conduct of a
          trade or business by such person.
        (B) Debt instrument
          The term "debt instrument" means a bond, debenture, note,
        certificate, or any other instrument or contractual arrangement
        constituting indebtedness (within the meaning of section
        1275(a)(1)).
      (4) Reacquisition
        For purposes of this subsection - 
        (A) In general
          The term "reacquisition" means, with respect to any
        applicable debt instrument, any acquisition of the debt
        instrument by - 
            (i) the debtor which issued (or is otherwise the obligor
          under) the debt instrument, or
            (ii) a related person to such debtor.
        (B) Acquisition
          The term "acquisition" shall, with respect to any applicable
        debt instrument, include an acquisition of the debt instrument
        for cash, the exchange of the debt instrument for another debt
        instrument (including an exchange resulting from a modification
        of the debt instrument), the exchange of the debt instrument
        for corporate stock or a partnership interest, and the
        contribution of the debt instrument to capital. Such term shall
        also include the complete forgiveness of the indebtedness by
        the holder of the debt instrument.
      (5) Other definitions and rules
        For purposes of this subsection - 
        (A) Related person
          The determination of whether a person is related to another
        person shall be made in the same manner as under subsection
        (e)(4).
        (B) Election
          (i) In general
            An election under this subsection with respect to any
          applicable debt instrument shall be made by including with
          the return of tax imposed by chapter 1 for the taxable year
          in which the reacquisition of the debt instrument occurs a
          statement which - 
              (I) clearly identifies such instrument, and
              (II) includes the amount of income to which paragraph (1)
            applies and such other information as the Secretary may
            prescribe.
          (ii) Election irrevocable
            Such election, once made, is irrevocable.
          (iii) Pass-thru entities
            In the case of a partnership, S corporation, or other pass-
          thru entity, the election under this subsection shall be
          made by the partnership, the S corporation, or other entity
          involved.
        (C) Coordination with other exclusions
          If a taxpayer elects to have this subsection apply to an
        applicable debt instrument, subparagraphs (A), (B), (C), and
        (D) of subsection (a)(1) shall not apply to the income from the
        discharge of such indebtedness for the taxable year of the
        election or any subsequent taxable year.
        (D) Acceleration of deferred items
          (i) In general
            In the case of the death of the taxpayer, the liquidation
          or sale of substantially all the assets of the taxpayer
          (including in a title 11 or similar case), the cessation of
          business by the taxpayer, or similar circumstances, any item
          of income or deduction which is deferred under this
          subsection (and has not previously been taken into account)
          shall be taken into account in the taxable year in which such
          event occurs (or in the case of a title 11 or similar case,
          the day before the petition is filed).
          (ii) Special rule for pass-thru entities
            The rule of clause (i) shall also apply in the case of the
          sale or exchange or redemption of an interest in a
          partnership, S corporation, or other pass-thru entity by a
          partner, shareholder, or other person holding an ownership
          interest in such entity.
      (6) Special rule for partnerships
        In the case of a partnership, any income deferred under this
      subsection shall be allocated to the partners in the partnership
      immediately before the discharge in the manner such amounts would
      have been included in the distributive shares of such partners
      under section 704 if such income were recognized at such time.
      Any decrease in a partner's share of partnership liabilities as a
      result of such discharge shall not be taken into account for
      purposes of section 752 at the time of the discharge to the
      extent it would cause the partner to recognize gain under section
      731. Any decrease in partnership liabilities deferred under the
      preceding sentence shall be taken into account by such partner at
      the same time, and to the extent remaining in the same amount, as
      income deferred under this subsection is recognized.
      (7) Secretarial authority
        The Secretary may prescribe such regulations, rules, or other
      guidance as may be necessary or appropriate for purposes of
      applying this subsection, including - 
          (A) extending the application of the rules of paragraph
        (5)(D) to other circumstances where appropriate,
          (B) requiring reporting of the election (and such other
        information as the Secretary may require) on returns of tax for
        subsequent taxable years, and
          (C) rules for the application of this subsection to
        partnerships, S corporations, and other pass-thru entities,
        including for the allocation of deferred deductions.