What do I do if I get a 1099-C from a creditor for “forgiveness of debt tax”?
June 14, 2012 Leave a comment
Don’t worry if you get a 1099-c from a creditor. Study up on the issue and then consult a tax counselor for more advice. Most tax advisors know all about 1099-c and its tax consequences.
Any debt forgiveness can result in taxable income in the eyes of the IRS. The IRS considers forgiven debt to be income to you that is taxable. This is true even though it is “phantom income” that you will never see.
Forgiveness of debt income can be on a settled credit card but more often it is concerning a mortgaged home that was foreclosed on or short sold. Sometimes it is called “cancellation of debt income” or COD. This can result in tremendous taxes owed by you to the IRS.
The good news is that if you short sold your home or had it foreclosed on you will be allowed to exclude up to $2 million in debt forgiveness with the Mortgage Forgiveness Debt Relief Act of 2007. This law allows exclusion of this excluded debt from taxable income through 2012 unless Congress acts to extend it. This act was passed during the home foreclosure crisis to give relief for homeowners who have had to abandon their homes.
The debt you incurred (and which was forgiven by the bank) must be to buy, build, or substantially improve your principal residence. So business property, second homes, investment property, rental are all not covered by the Mortgage Forgiveness Act.
There are other ways to get out of this potential COD income though. The most notable is bankruptcy. If you file for bankruptcy then insolvency is presumed and you just file the IRS form 982. Your accountant or tax preparer can help you with this. This form has boxes you check and if you filed bankruptcy or were insolvent when the debt forgiveness or cancellation occurred then you check the box and file the form with your taxes.
So ask your accountant or tax advisor about form 982 if you received a 1099-c or if you are worried about the tax implications of a short sale or foreclosure on your home. Remember that there is a law out there that helps you. If you get one after 2012 and Congress lets the law expire then remember that there is bankruptcy or insolvency that will exclude the amounts of debt forgiven from your income and you therefore won’t owe any tax on it.
I am a San Diego bankruptcy attorney. For further questions please visit my websites at www.farquharlaw.com or www.freshstartsandiego.com. Or call my office for a free consultation or for any other advice about bankruptcy or debt at (619) 702-5015. Call now for free credit report and analysis! For a free e-book on “13 things to do to prepare for your bankruptcy filing” please e-mail me at firstname.lastname@example.org.