Charged off debts (canceled
or forgiven) & the IRS 1099-C
"Canceled debt income" often
referred to as canceled or forgiven debts is something anyone
who has debts unpaid, but not gifted, should be concerned
with. The IRS considers this income! Think of it this way.
If your credit card company or lender gave you a loan but
you never paid it back then that is definitely income. The
money was received by you. If your debt has been written off
by a creditor then you may receive the 1099-c form.
You must claim this amount as income on your taxes
because you never paid it back- thus making it taxable income
where the IRS is concerned.
If you "settle" this debt
as "paid in full" with the creditor make sure you
ask that they agree to the settled in full arrangement and
not send the remainder as a loss to the IRS. If the creditor
willingly accepts "less than" as full payment then
make sure they agree not to report remainder -- get it in
writing if possible. The creditor can refuse but usually does
not. See exceptions below for more information on excluded
debts.
Generally, if a debt you owe is canceled
or forgiven, other than as a gift or bequest, you must
include the canceled amount in your income. You have no income
from the canceled debt if it is intended as a gift to you.
A debt includes any indebtedness for
which you are liable or which attaches to property you hold.
If the debt is a nonbusiness debt, report the canceled amount
on line 21 of Form 1040. If it is a business debt, report
the amount on Schedule C or Schedule C-EZ (Form 1040) (or
on Schedule F, Profit or Loss From Farming (Form 1040), if
you are a farmer).
Video
explaining the 1099C canceled or forgiven debt IRS rule. Form
1099-C. If a federal government agency, financial institution,
or credit union cancels or forgives a debt you owe of $600
or more, you will receive a Form 1099-C, Cancellation of Debt.
The amount of the canceled debt is shown in box 2 of the IRS
form.
Interest included in canceled debt
If any interest is forgiven and included in the amount of
canceled debt in box 2, the amount of interest will also be
shown in box 3. Whether or not you must include the interest
portion of the canceled debt in your income depends on whether
the interest would be deductible if you paid it. See Deductible
debt, under Exceptions, later. If the interest would not be
deductible (such as interest on a personal loan), include
in your income the amount from box 2 of Form 1099-C.
If the interest would be deductible (such as on a business
loan), include in your income the net amount of the canceled
debt (the amount shown in box 2 less the interest amount shown
in box 3).
Discounted mortgage loan
If your financial institution offers a discount for the early
payment of your mortgage loan, the amount of the discount
is canceled debt. You must include the canceled amount in
your income.
Stockholder debt
If you are a stockholder in a corporation and the corporation
cancels or forgives your debt to it, the canceled debt is
dividend income to you.
If you are a stockholder in a corporation
and you cancel a debt owed to you by the corporation, you
generally do not realize income. This is because the canceled
debt is considered as a contribution to the capital of the
corporation equal to the amount of debt principal that you
canceled.
1099-C Exceptions
There are several exceptions to the inclusion of canceled
debt in income. These are explained next.
Nonrecourse debt
If you are not personally liable for the debt (nonrecourse
debt), different rules apply. You may have a gain or loss
if a nonrecourse debt is canceled or forgiven in conjunction
with the foreclosure or repossession of property to which
the debt attaches. See IRS Publication 544 for more information.
Student loans
Certain student
loans contain a provision that all or part of the debt
incurred to attend the qualified educational institution will
be canceled if you work for a certain period of time in
certain professions for any of a broad class of employers.
You do not have income if your student loan is canceled after
you agreed to this provision and then performed the services
required. To qualify, the loan must have been made by:
The federal government, a state or local
government, or an instrumentality, agency, or subdivision
thereof, A tax-exempt public benefit corporation that has
assumed control of a state, county, or municipal hospital,
and whose employees are considered public employees under
state law, or An educational institution: Under an agreement
with an entity described in (1) or (2) that provided the funds
to the institution to make the loan, or As part of a program
of the institution designed to encourage students to serve
in occupations or areas with unmet needs and under which the
services provided are for or under the direction of a governmental
unit or a tax-exempt section 501(c)(3) organization. Section
501(c)(3) organizations are defined in Publication 525.
A loan to refinance a qualified student
loan will also qualify if it was made by an educational institution
or a tax-exempt 501(a) organization under its program designed
as described in (3)(b) above.
Deductible debt
You do not have income from the cancellation of a debt if
your payment of the debt would be deductible. This exception
applies only if you use the cash method of accounting. For
more information, see chapter 5 of Publication 334, Tax Guide
for Small Business.
Price reduced after purchase
Generally, if the seller reduces the amount of debt you owe
for property you purchased, you do not have income from the
reduction. The reduction of the debt is treated as a purchase
price adjustment and reduces your basis in the property.
Excluded debt: Do not include a canceled
debt in your gross income in the following situations.
The debt is canceled in a bankruptcy
case under title 11 of the U.S. Code. See Publication
908, Bankruptcy Tax Guide.
The debt is canceled when you
are insolvent. However, you cannot exclude any amount
of canceled debt that is more than the amount by which
you are insolvent. See Publication 908.
The debt is qualified farm debt
and is canceled by a qualified person. See chapter 4 of
Publication 225, Farmer's Tax Guide.
The debt is qualified real property
business debt. See chapter 5 of Publication 334.
