Don’t celebrate just yet. Do you know the rules governing debt forgiveness? Don’t you realize that forgiven debts carry serious tax implications?
This is how it gets along. Supposing you had credit card debts that you have not settled through bankruptcy. The credit card company has consistently made collections until you were able to pay a portion of the debt or its entirety. Now that you were released from the debt, you owe taxes.
If you have spent money which you did not pay back, such as in the case above, the IRS considers it as untaxed income. If you ate dinner, went on vacation, and purchased your favorite stuff so that you end up with $5,000 in credit card debts; and your credit card company forgave you your debts because you were unable to pay it; the IRS would treat that as income earned within unpaid taxes. So after your debts are settled, you should expect a copy of 1099-C coming your way from your creditor, representing the amount of forgiven debt.
But there is good news. There are forgiven debts that are non-taxable. Here are some of them.
1. Mortgage debts forgiven from 2007 to 2012 are covered by the Mortgage Forgiveness Debt Relief Act of 2007.
2. Home equity loans forgiven within the period becomes non-taxable when the proceeds of the loan were used for renovations of the primary home as opposed to debt consolidation or any other purpose.
3. Bankruptcy may render some debt forgiveness non-taxable for debts that are otherwise taxable, especially business bankruptcy.
When tax obligation becomes imminent for a forgiven debt, maybe it’s time to seek the help of a debt relief attorney. He will help you understand everything about debt forgiveness.