Non-Recourse Loan Exception for Cancellation of Debt Income
In you have cancellation of debt income and the loan that was canceled was a non-recourse loan, the income from cancellation of debt is not taxable.
This is true because when debt is non-recourse and is cancelled the sales price of the property is deemed to be equal to the amount of the debt at the time of the cancellation. Therefore, there is technically no cancellation of debt with a non-recourse loan.
How do you determine whether you have a non-recourse loan? Your particular state law determines whether a loan is non-recourse. The bottom line is that the lender does not have the ability to pursue the borrower for a deficiency if the borrower defaults on the loan and the lender is not repaid in full.