Tax Consequences for Debt Forgiveness

If your debt has been forgiven, you may be wondering if or how it impacts your tax obligations.

The IRS considers any cancellation of debt as ordinary, taxable income.

Although forgiveness of debt on a Form 1099 comes with tax consequences, there are some exceptions and exclusions.

Today, we will take a look at debt forgiveness income and its potential tax consequences.

What Is a Form 1099-C?

When a lender or creditor cancels, discharges, or forgives a debt of $600 or more, they need to file a cancellation of debt notice with the IRS.

The IRS then sends a Form 1099-C, Cancellation of Debt, to the original borrower, who must use the form to report the forgiven debt on their tax return.

When filing their Form 1040 U.S. Individual Income Tax Return, the 1099 debt forgiveness goes under “other income.”

How Do I Avoid Paying Taxes on a 1099-C?

Not all 1099 debt forgiveness is taxable. The IRS has specific exceptions and exclusions when it comes to the cancellation of debt income.

1099-C Exceptions

Some forgiven debt does not count as income from the cancellation of debt. Here are a few examples of 1099-C exceptions:

• Qualified student loans that are canceled if the borrower works in a certain profession,
• Canceled amounts that are deemed gifts or bequests, and
• Certain property purchase price reductions made by the seller.

At Blake Goodman, PC, Attorney, we can help determine if your forgiven debt qualifies as an exception.

1099-C Exclusions

If the IRS considers your forgiven debt as a cancellation of debt income, you may still be able to exclude the amount from your gross income.

Keep in mind that to exclude the forgiveness of debt income on 1099 from your individual tax return, you must file Form 982. Otherwise, the IRS has no way of knowing that your debt forgiveness is not taxable.

Examples of 1099-C exclusions include:

• Debt canceled through title 11 bankruptcy,
• Qualified farm loans,
• Qualified principal residence indebtedness, and 
• Insolvent borrowers. 

The insolvency exclusion is a common way to avoid paying taxes on any cancellation of debt income. Your debts must be greater than your liabilities to qualify as insolvent.

Additionally, you must have been insolvent immediately before the lender or creditor canceled your debt.

Get in Touch with Experienced Hawaii Bankruptcy Attorneys

Debt forgiveness is a chance to start over. However, there may still be tax consequences for the discharge of indebtedness.

At Blake Goodman, PC, Attorney, we’ve assisted thousands of Hawaiians in regaining control of their future.

With over 80 years of combined experience, our bankruptcy attorneys know the ins and outs of the IRS’s rules and regulations.

We take the time to walk you through your options and explain the consequences of each choice.

As the largest bankruptcy filer in Hawaii, let us help you today by calling one of our four offices or contacting us online to request a consultation.

We have four convenient locations throughout Hawaii in Honolulu, Aiea, Kaneohe, and Maui.