Your Debt Was Erased but It May Be Taxed?

debt, taxed

Many Americans are faced with debt – some good, some bad, some necessary.  For many, debt is a way of life. We leverage it to buy houses and cars, pay for education, take vacations and the list goes on. However, sometimes we find ourselves with more debt than we can handle due to unemployment, health issues or just life in general. In this case, having your debt forgiven would be a relief but it may have implications.

What is considered forgiven debt? Forgiven debt is when the organization that granted the loan decides to partially or completely erase the debt. The grantor of the credit or loan may choose to eliminate the debt if they are unable to collect or get tired of trying. As a result, the company can choose to erase the debt completely or partially.

How do you know if the forgiven debt is taxable?  If your debt has been forgiven and is taxable, you will receive a Cancellation of Debt, Form 1099-C from the lender. Form 1099-C identifies the amount of the erased debt as well as the date it was cancelled. If you receive this form, be sure to check it for accuracy. If there are discrepancies, contact the organization collecting the debt.

In certain instances, the forgiven debt is not considered income and therefore is not taxable. Here are a few circumstances where this is true. For instance, the debt is

  • a provisional student loan that was reduced when specific terms were completed.
  • filed under bankruptcy or the person is considered insolvent (broke).
  • forgiven via an inheritance or as a gift.
  • related to being a farmer or business owner.

The amount of forgiven debt, as indicated on Form 1099-C, should be reported on Form 1040 or Form 1040NR. It is considered income for the year in which the debt was cancelled.

For more information regarding forgiven debt, check out the TaxSlayer Knowledge Base.

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