WASHINGTON -- A change in the tax code creates an incentive for money-losing corporations to declare bankruptcy by yearend, a possible nightmare for bankers trying to work out troubled loans.
Congress is ending special tax treatment for stock-for-debt swaps for corporations that declare bankruptcy after Dec. 31.
That provision allows companies in Chapter 11 to offer creditors an equity position in return for debt forgiveness -- with no tax consequences if the stock is worth less than the face value of the loan.
For example, if a company owes a bank $100,000 and goes bankrupt today, it can offer the bank stock worth maybe $20,000 because of the company's depressed condition. There's no tax even though the company comes out $80,000 ahead on the transaction. Banks accept such swaps as a last resort.
"It's part of the head-start, fresh-start concept for troubled companies," says accountant David A. Berensen, head of Berensen & Co.
In order to avoid the change in the law, borrowing companies that are in trouble will look to file for bankruptcy so they retain the stock-for-debt option under the old rules, according to Henry Ruempler, a tax expert with the American Bankers Association.