8135 / What is the qualified farm indebtedness exclusion and in what manner must the taxpayer reduce certain tax attributes?

Subject to certain rules, all or part of the discharge of “qualified farm indebtedness” (indebtedness directly connected to the trade or business of farming), may be excluded from gross income. The requirements of the exclusion are as follows:

• For the three tax years immediately preceding the tax year of discharge, 50 percent or more of the taxpayer’s aggregate gross receipts must be from farming.


• The discharging party (i.e., the person or entity forgiving the debt) must be a qualified person – a federal, state or local government or agency or instrumentality thereof or an individual, organization, partnership, association, corporation, etc. regularly engaged in the lending of money. Qualified persons do not include persons related to the taxpayer, the person from whom the taxpayer acquired property or a person who receives a fee with respect to the taxpayer’s investment in the property.

A taxpayer’s tax attributes serve two purposes. First, the amount of forgiven qualified farm indebtedness excluded from gross income is limited to the sum of the taxpayer’s “adjusted tax attributes” plus the adjusted bases of “qualified property” held by the taxpayer as of the beginning of the tax year following the tax year of the discharge. The term “adjusted tax attributes” includes all the listed tax attributes (see Q 8133) with the exception of basis. “Qualified property” is property held for use in a trade or business or for the production of income. Any discharged debt in excess of that amount is included in gross income.

Example: Asher has $200,000 of qualified farm indebtedness that the lender (a qualified person) forgives. The sum of Asher’s adjusted tax attributes ($100,000) and the basis of his farm ($50,000) equals $150,000. Consequently, only $150,000 of the forgiven qualified farm indebtedness is excluded from gross income. The amount in excess, $50,000, is included in gross income under IRC Section 61(a)(12).

Second, once the amount of the excluded discharge of debt income is determined, the taxpayer must reduce his or her tax attributes in the manner described in Q 8133 with the exception of a special rule for basis reduction. The basis reduction is limited to qualified property to be reduced in the following order:

• Basis of depreciable qualified property


• Basis of qualified property which is farm land


• Basis of other qualified property