Canceled debt is taxable

[rembrandt]

I never knew this:
In general, if your debt is canceled, forgiven, or discharged for less than the amount owed, the amount of the canceled debt is taxable. If taxable, you must report the canceled debt on your tax return for the year in which the cancellation occurred. After a debt is canceled, the creditor may send you a Form 1099-C, Cancellation of Debt showing the amount canceled and date of cancellation.

 

[jebmke]

When you borrow the money, you receive something. If it isn't repaid then whatever you received is deemed as income to you since you didn't pay for it.

 

[frayne]

When I prepared taxes years ago, I found that many people struggled to understand the concept of paying taxes on canceled debt. They often didn’t realize that canceled debt is treated as taxable income.

 

[Qs Laptop]

It ought to be considered a gift.

 

[rembrandt]

There are exceptions:
Bankruptcy and insolvency. If your debt was discharged in a Title 11 bankruptcy proceeding, such as a Chapter 7 or Chapter 13 case, you're not responsible for taxes on that debt. If you can demonstrate to the IRS that you were insolvent at the time the debt was cancelled, you can similarly avoid taxes on that debt.

 

[steelyman]

I believe the loss can be written off taxes by the lender.

 

[jebmke]

I believe the loss can be written off taxes by the lender.

yes; generally they will write it off against a reserve that they have made (expense) for doubtful accounts. At some point, audit procedures deem it necessary to write off bad debt. This isn't a gift. They aren't canceling the debt out of generosity.

 

[steelyman]

yes; generally they will write it off against a reserve that they have made (expense) for doubtful accounts. At some point, audit procedures deem it necessary to write off bad debt. This isn't a gift. They aren't canceling the debt out of generosity.

This makes sense. The debtor doesn’t get off scot-free as they are to pay taxes at their tax rate on the amount they borrowed and did not pay back.

 

[old medic]

I never knew this:
In general, if your debt is canceled, forgiven, or discharged for less than the amount owed, the amount of the canceled debt is taxable. If taxable, you must report the canceled debt on your tax return for the year in which the cancellation occurred. After a debt is canceled, the creditor may send you a Form 1099-C, Cancellation of Debt showing the amount canceled and date of cancellation.

Yup.... got hit with several different ones years ago... but guessing it was better than going the bankruptcy route.

 

[athena53]

DS bought a house in 2010 through an entity that was partly government/partly nonprofit to get first-time buyers into homes they intended to occupy to stabilize neighborhoods during the financial crisis. It included a forgivable loan of $12,000 to be put towards improvements. He used the money for replacement windows. The loan was forgiven over time in phases and he was quite perturbed to find that the forgiven amounts were taxable. I wasn't surprised.

Also during the financial crisis, I was reading of people who "strategically defaulted"- handed the keys to the lender and walked away and had no other attachable assets. They figured that the mortgage wording allowed for it, which was technically true since it stated that if you were in default they could take the house. I'm sure some were unhappily surprised when the underwater amount was taxable income.

 

[jazz4cash]

It ought to be considered a gift.

I think the reasoning is that the lender takes a deduction for the writeoff

 

[jazz4cash]

There are exceptions:
Bankruptcy and insolvency. If your debt was discharged in a Title 11 bankruptcy proceeding, such as a Chapter 7 or Chapter 13 case, you're not responsible for taxes on that debt. If you can demonstrate to the IRS that you were insolvent at the time the debt was cancelled, you can similarly avoid taxes on that debt.

I think there was a temporary exception that was part of the GFC response. I did taxes for my cousin and learned that she could waive taxes due on cancelled debt from a short sale. The procedure was obscure as I recall. Point is YES cancelled debt is taxable usually but you should double check for exceptions.

 

[MC Rider]

Point is YES cancelled debt is taxable usually but you should double check for exceptions.

Broke people need tax loopholes too.

 

[Montecfo]

I think there was a temporary exception that was part of the GFC response. I did taxes for my cousin and learned that she could waive taxes due on cancelled debt from a short sale. The procedure was obscure as I recall. Point is YES cancelled debt is taxable usually but you should double check for exceptions.

My recollection was the same. These were exceptions to the general rule.

 

[The Cosmic Avenger]

I learned this when we had at least 4-5 foreclosures on our block, due to the 2007-2010 subprime mortgage crisis.

 

[Chuckanut]

It ought to be considered a gift.

I suspect that would open many interesting tax loopholes.

 

[Montecfo]

It's not a gift. The lender has no intention to make a gift for any reason to do so.

 

[pb4uski]

I think the reasoning is that the lender takes a deduction for the writeoff

As the lender one of the saving graces of writing off a loan where we thought the borrower could have paid was mailing them the 1099 knowing then at least the IRS would chase them for the taxes on the gain.