Debts cancelled by lenders as a result of debt settlement is taxable

Debts cancelled by lenders as a result of debt settlement is taxable

If you received Form 1099c from your lender because of foreclosure, short sale, loan modification or debt settlement, the general rule is it is a reportable income.  There are however few exceptions that may apply.  The exceptions are Home Affordable Loan Modification Program reduction of debt on principal residence.  The other exceptions are Bankruptcy and Insolvency.

Question:   My second home has been foreclosed and I received a Form 1099c from the bank for the difference between the amount I owe and the fair market value of the house.  Should I file for bankruptcy?

Answer:    Yes.  The best way to resolve the issue that you made an income on the forgiven indebtedness is to consult with a bankruptcy attorney who will evaluate if you need to file bankruptcy.

Question:   I was given a Form 1099c by my lender for the forgiven debts as a result of debt settlement.  Should I file for bankruptcy?

Answer:    The debt forgiven as a result of debt settlement is also a taxable income.  You must consult with a bankruptcy attorney if you need to file bankruptcy.

Question:  How may I qualify for the Insolvency exception?

Answer:     Insolvency means you have more liabilities than asset or property.  You need to figure out how much you are insolvent to determine how much you can exclude from income.  Do not include a canceled debt in income to the extent that you were insolvent immediately before the cancellation. You were insolvent immediately before the cancellation to the extent that the total of all of your liabilities was more than the Fair Market Value of all of your assets immediately before the cancellation. For purposes of determining insolvency, assets include the value of everything you own (including assets that serve as collateral for debt and exempt assets which are beyond the reach of your creditors under the law, such as your interest in a pension plan and the value of your retirement account). Liabilities include almost everything you owe.

Question:  How should I report my Form 1099c based on insolvency in my tax return?

Answer:    The analysis is complicated and requires legal background.  You need to consult with a bankruptcy attorney to help you how to report the Form 1099c cancellation of debt based on insolvency.

Question:  I filed bankruptcy after my second home was foreclosed and I still got a Form 1099c for the cancelled debt.  Should I include this as taxable income?

Answer:  If you already filed for bankruptcy, you qualify for the exemption but still you have to report in your income tax return the amount of forgiven debt that is exempt from income tax because of your filing bankruptcy.  You should consult with a bankruptcy attorney to help you report this matter in your tax return.

Note:   This is not a legal advice and you should consult with a bankruptcy lawyer about your specific situation.  Our Law Office has successfully represented clients who were given Form 1099c for cancelled debts.



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