IRS Canceled Debt – Income or Not Income
Canceled Debts Are Income!
Generally, if a debt for which you are personally liable is forgiven or discharged for less that the full amount owed, the debt is considered cancelled in whatever amount it remained unpaid. Generally, you must include the canceled debt is your income. However, under some circumstances, you may be able to exclude the cancelled debt as income.
The lending institution sends you a Form 1099-C to indicate the amount of debt they have canceled. This amount should be reported as ordinary income for the year of the Form 1099-C, unless an exception applied.
The most common exceptions to include the canceled debt in income are.
1. If you use the cash method of accounting, you do not realize income from the cancellation of debt if the payment of the debt on your part would have been a deductible expense.
2. If the debt is cancelled in a title 11 bankruptcy proceeding, but only if the debtor is under the jurisdiction of the court and the cancellation of the debt is granted by the court or occurs as a result of a plan approved by the court.
3. You do not include a canceled debt in income to the extent that you were insolvent immediately before the cancellation. You were insolvent immediately before the cancellation of the debt to the extent the total of all of your liabilities was more than the fair marked value of all of your assets immediately before the cancellation.
4. You do not include a canceled debt in income from qualified farm debt. Various specific requirements have to be met. Only applies to debt that is not discharged due to bankruptcy or insolvency.
5. Qualified principal residence indebtedness. Various specific requirements have to be met. Only applies to debt that is not discharged due to bankruptcy or insolvency.
A Form 982 is attached to the tax return to show the amount of canceled debt that is not included in gross income.
There may be situations where the Form 1099-C is sent by the lending institution for the wrong year. Thus, the debt may have been cancelled in a year for which the taxpayer’s assessment statute may have expired or the taxpayer was insolvent.
When a cancellation of debt situation arises, a tax professional should always be consulted.
IRS Canceled Debt – Income or Not Income – Ask Former IRS
