Debt forgiveness is a common advantage which you may enjoy after settling your debts successfully. This forgiven debt may increase your tax amount. Yes, this is very much true. If your creditor forgives debts around $600 or more than that, then Internal Revenue Service or the IRS may charge tax on that amount. IRS considers the forgiven debt as taxable income and you need to pay off taxes on that amount accordingly.
How IRS treats the forgiven debts?
You need to pay at least 50% of your total debt amount to your creditor to settle your debts. Your creditor may forgive rest of the debt amount. If the forgiven debt amount is $600 or more than that, then you must inform IRS about the amount. This may seem unfair to a debtor, but it’s legally justified. Suppose you’ve $ 10,000 debt to pay off and your creditor forgives you around $4,000. Quite obviously, the $4,000 will be considered as your extra income. You need to fill up a cancellation of debt form, the 1099-C IRS form. The creditor must send this form to you. At the end of the year you’ll have to pay taxes on that $4,000 just like your other taxable income.
Is any tax exemption possible?
In some specific situations, it’s possible to get tax exemptions on the debts forgiven due to various reasons. As per the Mortgage Forgiveness Debt Relief Act of 2007, you may relish exemption on the forgiven debts if the mortgage loan was taken out for acquisition or renovation of your primary residence. In bankruptcy also, there are chances of tax relief from IRS.
In debt settlement there is no such hope of tax exemption yet. Any special rule or act hasn’t been announced yet by IRS. You must pay off the taxes at the end of the year as per the IRS guidelines.
Is it hopeful or hopeless?
This is indeed disheartening for lots of people. Debt settlement is the most trusted debt relief option for troubled debtors. Still, it can be said that the factor of tax-liability must not be the sole decisive factor to judge the viability of a debt settlement program. When you’re knee deep in debt, the only option which may revive your financial life is debt settlement. So definitely it’s not a wise idea to skip settling your debts to avoid taxes.
Obviously debt settlement affects your credit score a bit. So definitely it’s better to pay off your debts completely without negotiating with creditors. In this way you won’t have to pay off any taxes. If it’s not possible, then you’ve to get help of debt settlement.
The tax that you need to pay on your forgiven debt is not equal to the amount you’ve been forgiven. So definitely it’s a positive side for you. You can easily pay off that tax at the end of the year and your debts will also go away. This may bring a positive change in your financial life. So no need to be disappointed as there is always a hope for miserable debtors.