The Internal Revenue Service has withdrawn proposed regulations that would have treated mortgage loans as capital assets and restricted the deductibility of mortgage defaults.

The Treasury Department and the IRS first published the proposed regulations on Aug. 7, 2006, seeking to clarify the circumstances in which accounts or notes receivable are "acquired ... for services rendered" within the meaning of Section 1221(a)(4). The IRS's proposed regulations would only have allowed mortgage companies to use the losses from mortgage delinquencies to offset capital gains.

The IRS received written comments and held public hearings to discuss the regulations. The withdrawal of the regulations is mainly expected to benefit large mortgage organizations such as Fannie Mae and Freddie Mac, and other holders of defaulted loans.

The IRS said it will not challenge return reporting positions of taxpayers under Section 1221(a)(4) that apply existing law, and said it would continue to study this area and may issue guidance in the future.

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