IRS would treat it as a sale. You would compare your basis in the goods at the time of sale, to what you "received" from the sale. Basis is the amount of value left in the goods for tax purposes, generally cost less depreciation. What you "received" is the amount of reduction of the loan (plus excess funds, if it sold for more than was owed). If the stuff brought more at the sale than its basis, you're on the hook for capital gains tax on the difference.
The "imputed income" situation that Scotty brought up only came into play when you turned over the equipment or real estate in full satisfaction of the debt. They, you would be taxed on the amount of loan forgiveness that was above and beyond the fair market value of the stuff. Some exceptions generally kept folks out of that situation- if you were insolvent, or in bankruptcy, it didn't apply, and many were in that situation by the time such drastic measures as foreclosure occurred.
Even though this seems unfair (kicking you while you're down, so to speak), it was generally advantageous from a financial standpoint. If you had a loan of $100,000, and bank accepted R/E worth $75,000 in full satisfaction, you'd owe tax on $25,000- lets say, 4 grand. However, if bank just did a sale and applied the proceeds, you'd still owe 25 grand.
The most cruel application of the rule is when you tried to be a good guy and give the bank a "deed in lieu of foreclosure" voluntarily, instead of making them go through the foreclosure process. Thanks for doing the right thing, and by the way, Surprise! You owe some tax!
Happy to say, the "imputed income" rule has been suspended by IRS, beginning in 2007, and on into the forseeable future (translation- until economy gets back on its feet, and they can resume taxing the daylights out of us).
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Today's Featured Article - New Hitches For Your Old Tractor - by Chris Pratt. For this article, we are going to make the irrational and unlikely assumption that you purchased an older tractor that is in tip top shape and needs no immediate repairs other than an oil change and a good bath. To the newcomer planning to restore the machine, this means you have everything you need for the moment (something to sit in the shop and just look at for awhile while you read the books). To the newcomer that wants to get out and use the machine for field work, you may have already hit a major roadblock. That is the dreaded "proprietary hitch". With the exception of the
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