How Strike Debt is resolving the taxable-income issue

By Felix Salmon
December 18, 2012
Yves Smith had a message for Strike Debt: "Rolling Jubilee should get one of its sympathetic celebrites to write a check to a serious tax lawyer to take a proper look," she said, in order to make sure that its delicious idea didn't end up inflicting enormous tax liabilities on unsuspecting debtors.

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Earlier this month, Yves Smith had a message for Strike Debt: “Rolling Jubilee should get one of its sympathetic celebrities to write a check to a serious tax lawyer to take a proper look,” she said, in order to make sure that its delicious idea didn’t end up inflicting enormous tax liabilities on unsuspecting debtors.

Well, it seems that Strike Debt has indeed managed to get a serious tax lawyer to take a proper look at its idea.* Nick Pinto spoke to that lawyer, whom he characterizes as someone who “works in the tax department at a top international law firm”. And it seems that Strike Debt has tweaked its model, a little bit, in order to bolster its case that the forgiven debt should be counted as a gift rather than as taxable income.

At this point, it seems, Strike Debt is buying up only distressed medical debt, rather than any other kind of debt. And that, in turn, serves to underscore the charitable purpose of Rolling Jubilee:

Recipients don’t have to be poor to receive tax-free debt forgiveness. “This is focused on medical debt,” she says, “and people with health problems can be categorized as distressed. You don’t need to show that they’re impoverished.”

This seems to both resolve and confirm a lot of Smith’s worries. “Middle class borrowers are not considered a proper charitable class under the tax law”, wrote Smith: “if you have moderate income, even if you are up to your eyeballs in debt through no fault of your own, it appears the IRS will not regard your financial duress as making you a suitable case for charity.”

So the fact that Strike Debt is buying up only medical debt seems to indicate that the income-tax problem is a real one. At the same time, however, by restricting itself to a definably distressed class of people, Strike Debt does seem to have given itself a pretty strong case that it’s involved in a charitable operation.

Smith has other concerns as well, chiefly that buying the debt in the first place counts as “commercial activity”, but that part of her argument seems a lot weaker to me: the relationship between Strike Debt and the borrower — which is the relationship which matters here, is clearly a noncommercial one. The IRS is right that it’s hard to determine “donative intent” in a “business setting” — but this isn’t a business setting, and the donative intent is very, very clear.

Of course, it’s impossible to be certain in these matters. Strike Debt is sending lovely packages, wrapped up in a literal bow, telling borrowers that they have cancelled the debt in question. “You no longer owe the balance of this debt,” says the letter. “It is gone, a gift with no strings attached. You are no longer any obligation to settle this account with the original creditor, the bill collector, or anyone else.” But once the package is received, the borrower knows that the debt has been forgiven, raising the question of what they’re meant to do with that information. Specifically, should they declare the forgiven debt on their tax return?

Strike Debt is not sending the borrowers a 1099-C form, and they clearly don’t expect the borrowers to declare the forgiven debt as income. I think that’s reasonable — and if the IRS does start asking pointed questions, I’m sure that Strike Debt’s lawyer will help them explain why the write-off was a gift, rather than taxable income. But let’s hope it doesn’t come to that. This is a lovely and public-spirited thing that Rolling Jubilee is doing, and the IRS has much, much bigger fish to fry.

*Update: Strike Debt says their lawyer has been involved for months, since well before Yves’ post. But I think the medical-debt-only policy is new: I for one haven’t seen it mentioned before.

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