We hear this every tax season, people becoming so anxious about settling their debts but then being reamed by the IRS because that debt becomes taxable. We’ve  written about this issue many times but it seems to arise again and again, especially at tax time.

Today we are featuring the full explanation of the 1099-c taxable income issue by expert debt settlement coach Charles Phelan of ZipDebt.com.  He offers up a complete explanation of how the 1099-c issue can affect you when settling your debts and puts to rest those mis truths.

With collection agencies and debt sales reps getting more desperate to collect dollars during this credit crisis, they are telling many mis truths to consumers in an attempt to get payment. Only a true debt settlement expert will tell you the facts without an agenda.

Here is the guest post by Charles Phelan, an expert debt settlement coach and author of the ZipDebt system. You can visit his site to get a copy of his free debt settlement ebook  and learn more about debt settlement done by the consumer, for the consumer.

Charles wrote about this issue on the ZipDebt blog which is very valuable to subscribe to if you’re interested in debt settlement and the industry. The original post can be found here.  If you are interested in debt settlement but do not want to approach the issue alone, Hoffman, Brinker Roberts offers a full service that is fair and effective.

1099-c Taxable Income Issue
Two different consumers have informed me that a “debt consultant” (i.e., sales rep) at a settlement company made a specific claim about the 1099-C taxable income issue. The pitch is that if the client handles the negotiation themselves, they will be issued 1099-Cs by the original creditors and the forgiven balances will be fully taxable. Naturally, they also claim that if their company is contracted to handle the negotiations, they have some special method for getting around the 1099-C issue.

So we have two lies in one sales claim. That takes real creativity (or desperation). The first lie is that the forgiven balance is fully taxable when you get a 1099-C. That is false for the majority of debt settlement clients, due to the “insolvency” exemption. If you have a negative net worth, the IRS permits you to exclude the 1099-C amounts from income up to the amount by which you are negative. Therefore most debt settlement clients don’t have to pay taxes on the 1099-C amounts.

The second falsehood is the claim that a settlement company has some method of avoiding the issuance of the 1099-C in the first place. Nonsense! This is a blatant lie, period.

I’m not sure what magic-bullet technique these guys are claiming to have for eliminating the 1099-C factor. One possibility is a truly stupid tactic where you dispute the forgiven balance – the exact opposite of what you want to achieve through the settlement process.

Anyway, leaving aside idiotic tactics that will only backfire, it simply DOES NOT MATTER whether you settle the debt before or after charge-off. Either way, the creditor is REQUIRED BY LAW to issue a 1099-C for any forgiven amount of $600 or greater. Purposely waiting until after charge-off, the way one rep phrased the claim, does not create a path for avoiding the 1099-C. And if you were to follow this wonderful “advice,” it would also cost you some of the best potential settlements. (Some of the best deals available happen before the charge-off deadline via negotiation with the original creditors.)

What’s going on here is that it’s getting tougher and tougher for these settlement company sales reps to “close the deal.” Their huge fees are a tough sell, and smart consumers do their homework before signing a contract. Many of them find my website, realize that all is not as they were told, and start thinking about taking charge of the project with help from ZipDebt. The sales rep finds out they lost another big commission, and they start thinking of ways to convince people they should not handle their own settlement program. Hence the new “angle” on the tax issue.

Then again, now that I think of it, there may be some truth to their claim. Since many of their clients will either be forced into bankruptcy or get sued into paying back 100% of the debt anyway, then I suppose they can make the case that there will be no 1099-C forms issued. No settlements = no forgiven debt = no 1099-C .