It might interest you to know one in every three Americans has delinquent debt. When a lender forgives an amount owed, it is referred to as a forgiven debt. In effect, you will pay the lender less than the amount you owe.
For example, assume you owe a lender $300,000 and have a property worth $250,000. The lender may sell the property to recover $250,000, and then forgive you for the remaining $50,000. The $50,000 debt is canceled. The question, however, is: Do you owe tax on forgiven debt?
In this piece, we discuss more concerning tax on forgiven debt.
Once your lender forgives your debt, they should file a 1099-C Cancellation of Debt Form if the debt exceeds $600.After filling out this form with the IRS, they’ll send you a copy. The form indicates the canceled amount and the interest forgiven on the debt. In some cases, they may not need to include interest as part of your taxable income.
If you repay a portion of the canceled debt, you have the mandate to file for a refund for any tax you’ve paid on the debt. When your creditor forgives a debt either partially or entirely, you no longer need to make monthly payments, but you may have to pay taxes on the forgiven debt, as you’ll learn at FreedomDebtRelief.com.
When Is a Forgiven Debt Taxable?
If you have had debt forgiven recently, it’s vital to be aware of whether it’s taxable or not. When your lender forgives your debt, it’s taxable if you don’t qualify for an exemption. You will pay tax for any forgiven debt exceeding $600 because it’s considered taxable income. However, there are some exclusions and exceptions on taxation for forgiven debt.
When your canceled or forgiven debt is not included as part of your taxable income, this is considered an exception. In other cases, the debt can be reduced or lowered but not eliminated; in this case, it’s referred to as debt exclusions. When filing your tax forms, you should apply the exceptions before the exclusions. As a taxpayer, you can eliminate the following types of forgiven debts from your taxable income:
- Bequests and gifts
- Price reduced after buying the property
- Specific student loans, for instance, teachers, nurses, and doctors working in rural or low-income areas
- A deductible debt, for example, home mortgage interest
Some debts can be reduced or lowered, but you must file them as an exclusion using Form 982. They include:
- Discharging debt via bankruptcy
- When discharging qualified principal residence indebtedness
- Discharging debt of an insolvent taxpayer
- Discharging qualified real Property business indebtedness and unqualified farm indebtedness
It’s advisable to consult a certified tax expert with experience in debt settlement to understand the exceptions and exclusions when receiving the forgiveness. Based on the situation and the type of debt, you can minimize or fully eliminate the inclusion of the forgiven debt in your taxable income.
Tax Consequences of a Forgiven Debt
A forgiven debt can be a great relief on your financial resources. But remember, it’s vital to get the correct information about the type of debt and its consequences on your income. For example, when you benefit from a forgiven debt or it’s discharged, you’re required to report the unpaid debt to the IRS as part of your taxable income. This may mean a higher tax bill.
Before seeking debt forgiveness, it’s vital to understand whether the debt is taxable or not.
Demystifying Debt Forgiveness with Experts
Do you owe tax on forgiven debt? Debt forgiveness can be a great relief, especially if you’re struggling to repay the debt. On the other hand, ignoring your debts can result in negative consequences for your credit status. Either way, it’s important to understand the tax implications of credit relief. The smart play here is to consult a debt relief professional or a tax professional to help you determine your liability.