Cash advance pay day loan

No interest deduction on funds borrowed to pay off loan from same lender

A cash-basis partnership was not entitled to an interest deduction where the funds used to satisfy the interest obligation were borrowed for that purpose from the same lender to whom the interest was owed. Therefore, the Tax Court ruled, one of the partners had to reduce his distributive share of the partnership's disallowed ordinary loss to reflect the disallowed deductions for interest paid with the borrowed funds.

The partnership, which bought, cultivated and sold farm properties, entered into a credit arrangement to borrow funds from a life insurance company. In order to prevent a default, the general partner requested modification of the arrangement so that the entire amount of interest owed could be borrowed from the lender. The parties agreed that the new advance would be used to satisfy the current interest obligation and would increase the amount of the loan. Checks were exchanged within a two-day period. Although the funds were run through the partnership's bank account, the partnership did not have unrestricted control over the funds. Therefore, the partnership was denied an ordinary loss deduction even though the transfer left a negative balance in the partnership's account.

The partnership was also denied an interest deduction for funds from the credit arrangement that were applied to unpaid interest owed to the same lender for a previous loan. The lender simultaneously increased the principal amount due from the partnership under the credit arrangement. Thus, the funds used to pay the interest on the previous loan were not considered interest paid.

Davison, TC, CCH Dec. 51,524, 48,242