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You Could Owe Tax On Forgiven Debt

[Apr 3, 2010.]


Will The IRS Come After You?

If you did a credit card debt consolidation loan, the answer is negative. A credit card debt consolidation loan doesn't write off any portion of your balance. It simply restructures your debt, usually into one low payment with a fixed rate and term. Credit card debt consolidation could also benefit your credit score.

If you did a debt settlement program, the answer could be positive. Don't panic, you need to ask your tax preparer or contact the IRS directly. If all or part of your debt was forgiven, the IRS may consider it income and taxable. Read the IRS information here.

Which Debts Are Taxable And Which Are Not?

According to the IRS, "If you borrow money from a commercial lender and the lender later cancels or forgives the debt, you may have to include the cancelled amount in income for tax purposes, depending on the circumstances. When you borrowed the money you were not required to include the loan proceeds in income because you had an obligation to repay the lender. When that obligation is subsequently forgiven, the amount you received as loan proceeds is normally reportable as income because you no longer have an obligation to repay the lender. The lender is usually required to report the amount of the canceled debt to you and the IRS on a Form 1099-C, Cancellation of Debt."

If you had debt forgiven, but fall in one of these categories, you usually don't need to pay income tax on the forgiven debt:

  • The debt was a mortgage on a qualified residence. See Mortgage Debt Relief Act of 2007.
  • You filed bankruptcy.
  • You were insolvent when the debt was cancelled.
  • The debt was related to the operation of a farm. See IRS for details.
  • The debt was a non-recourse loan. The loan was collateralized by some property which the lender would need to repossess.

The best thing to do if you have any questions or concerns is to seek help from a qualified tax professional. If you do your own taxes and aren't sure who to call, you can contact the IRS directly. Don't take any chances if you are uncertain. Penalties and interest on back taxes owed to the IRS can be very expensive.


About Author:

Renee Morgan has been a loan officer for over eighteen years. She is also a freelance writer and guest expert for radio and TV.

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