Forgiven Debt

Do You Owe Taxes on Forgiven or Cancelled Debt?

Do you owe creditors money you can't afford to repay? You may be eligible to have the debt forgiven or otherwise canceled. When this happens, you no longer owe your creditors the money that you used to owe them.

What you need to know is, the IRS usually treats such canceled debt as income. Income that you could owe taxes on. If you fail to report it or fail to pay taxes on the cancelled debt, you’ll end up owing penalties and interest. Over time, that could become just as big of an issue as your original debt.

When Do I Not Owe Taxes On Forgiven Debt?

In some cases, you may get an exemption and there are some circumstances in which you won't owe taxes.

Your Debt is discharged through bankruptcy proceedings: If you are in serious financial trouble, you may file for bankruptcy. By filing bankruptcy, you may have your debts discharged by the court. Bankruptcy debts,  are not considered taxable when forgiven.

You're insolvent: When you are able to settle with a creditor by paying them less than you owe them, your financial situation may be bad enough that you owe, in general, more than you own. If the IRS considers you financially insolvent, you may have either part or all of your debt excluded from taxation. If you believe that you qualify for insolvency exemption, you should hire a tax resolution professional to help make sure.

A canceled debt from friends or family:
If you borrow from friends or family and have them forgive the debt, the money forgiven is considered a gift. Gifts are not taxable income.

Tax-deductible interest: Forgiven debt that includes interest that is tax-deductible. You do not need to report the interest component as taxable income. Discharged student loans are also usually exempt from taxation.

Forgiven Debt
1040 tax form

Including the forgiven debt in your tax return

Didn't tell your tax professional about the forgiven debt? If you did not tell your tax professional about the forgiven debt, you likely won't know about the tax liability until you receive a notice in the mail about it. Usually, a creditor who forgives you over $600 sends you a 1099-C form stating the amount forgiven. If the debt forgiven is exempt, you may need to fill out a Form 982. Form 982 states how much should be exempt, and why.

What do you do if you pay taxes on forgiven debt that should be excluded?

If debt forgiven is exempt from taxes, but you still pay, you're may amend your tax return. You may amend your tax return for three years. You simply need to file Form 1040X and mention your exemption on Form 982. Working with forgiven debt can be complex. It is usually a good idea to hire a tax resolution professional to work out the details.

About Tower Tax Relief LLC

Our firm specializes in IRS Resolution, and the protection of our clients is our number one priority. We serve clients virtually or in person, whichever makes you most comfortable. If you want an expert tax resolution specialist, who knows how to navigate through the IRS storm, and will advocate on your behalf, reach out to us - Tower Tax Relief LLC. Call us today, we are ready to help - 469-206-4050. The first step will be to schedule a confidential consultation to explain your options to permanently resolve your tax problem.