07 Jul Forgiven Debt: How it Impacts Your Taxes
You or your business may qualify for exceptions to paying tax on canceled debt and may not have to pay.
Creditors may offer debt forgiveness to debtors who negotiate the cancellation of their debt obligation. In cases of forgiven debt or canceled debt, the creditor gives the debtor a 1099-C form that lists the debt that has been wiped out. The amount listed on the form is what the debtor will need to pay taxes on. The IRS counts forgiven debt as income. Therefore, the canceled debt must be reported as taxable income, mainly if the canceled amount is $600 or more. Other methods of canceling debt include debt relief programs.
Specific exceptions allow a taxpayer to exclude all or a portion of their forgiven debt.
Exceptions to paying taxes on forgiven debt
Discharged debts in bankruptcy – Canceled debt shouldn’t be reported as income if bankruptcy protection is in place. In qualified bankruptcy cases, forgiven debt is not considered income, helping save the borrower in distress from tax liabilities.
Forgiven debt when a debtor is insolvent – When the debtor’s total liabilities exceed total assets, they may be excluded from paying taxes but only up to a certain amount.
The forgiven debt is a gift – It’s not considered income if the canceled debt is claimed as a gift. This applies to inheritance. Debt forgiveness may even be deemed a “gift” from the creditor and impose a substantial gift tax on the creditor.
Forgiven interest – Tax doesn’t need to be paid on debt due that would have been deductible. An example of this would be business debt. Interest on personal card debt, on the other hand, cannot be deducted, and therefore, taxes on the forgiven debt, including the interest, must be paid.
Canceled debt connected to business real estate – Forgiven debt related to business real estate, such as farms, may be excluded from taxes – mainly if the debt is more than the property’s worth.
Forgiven student loans – Some student loans come with a loan forgiveness provision, which may be based on the applicant’s field of work. Forgiven debt under these programs is exempt from taxes.
While debt forgiveness may relieve the financial burden, it may require you to report your unpaid debt to the IRS. This may translate to additional costs on your end in the form of a higher tax bill. Therefore, it is worthwhile to fully understand the impacts of debt cancellation during these desperate economic times.
If you’re overwhelmed with tax problems, there’s no need to attempt to resolve them on your own. We can help take the stress out of the tax resolution process. To learn more about how the cancelation of debt or bankruptcy impacts your taxes, contact Golden Tax Relief today !