Borrowing money through credit cards or loans can offer financial relief and opportunities. But what happens when you can’t repay that debt? In such cases, creditors might cancel the debt and issue a Form 1099-C. Receiving this form can impact your tax liability. To avoid IRS complications, it’s essential to understand the basics of the form.
What Is Form 1099-C
Form 1099-C is a document issued by creditors to report the forgiveness or cancellation of a debt of $600 or more. When your debts are forgiven or canceled, the IRS regards this as income. It means you’ve received a benefit without repaying the borrowed funds.
For example, if you borrowed $8,000 for a business loan and repaid only $4,000, the remaining $4,000 of debt, if forgiven or canceled, is treated as income. If you receive Form 1099-C in such a scenario, report the indicated amount as additional income on your annual tax return. Even if the forgiven debt is less than $600 and you don’t receive the form, you should still report it as taxable income. Keep in mind that if your forgiven debt doesn’t fall into specific IRS-excluded categories, you might owe taxes on the forgiven amount.
Why Creditors Forgive Your Debt
Cancellation of debt happens when a creditor forgives a debt that you haven’t fully repaid. This can occur for various reasons. Sometimes, the creditor stops trying to collect the debt because they have exhausted their resources and failed to recover the owed amount. In other cases, the cancellation of debt can result from an agreement between you and the creditor.
Who Files The Form
Lenders, such as banks, credit unions, or other financial entities, are responsible for filing Form 1099-C with the IRS when they forgive or cancel at least $600 in debt for an individual or entity during the previous tax year. As a borrower, you don’t need to file Form 1099-C, but you should use the form the lender sends you to prepare and file your income tax return.
Lenders commonly send out 1099-C forms for various reasons, including property foreclosure, abandonment, and repossession. Regardless of the reason, canceled debt generally counts as income and must be reported to the IRS.
How To Report Canceled Debt to the IRS
When you receive a 1099-C form, it’s important to determine if your canceled debt is eligible for IRS exclusions, such as insolvency or certain bankruptcies. If it doesn’t qualify for an exclusion, report the amount from Box 1 on your tax return under “Other income” (Form 1040 or 1040-SR). Don’t ignore the 1099-C, even if the debt is under $600 or you didn’t receive the form, as doing so could trigger IRS scrutiny. For excluded income, use IRS Form 982.
Which Type of Debt Isn’t Taxable?
While receiving a 1099-C form may raise concerns, not all canceled debt leads to increased taxes. The IRS offers exclusions for specific situations, ensuring you won’t owe taxes on these amounts. Some of these situations include:
- Debt discharged in a bankruptcy case.
- If you were insolvent before the debt cancellation.
- Debt forgiven through the Public Service Loan Forgiveness program.
- Some forgiven student loans, such as those due to public service, death, or permanent disability.
- Nonrecourse loans, where the lender’s only recourse is the property itself.
- Certain farm and real property business debts.
- Certain home-related debt, including home acquisition debt and refinanced mortgage debt.
- Debt canceled as gifts, inheritances, or specific qualified student loans.
What to Do If the Form Contains Mistakes?
If you find errors in your 1099-C form, the first step is to contact the creditor. Ask for a corrected version of the form with accurate information. It’s important to do this before the tax deadline so you can file your taxes with the correct details. If, for some reason, the creditor doesn’t send the corrected form in time, you’ll need to file an amended return once you receive the accurate 1099-C.
Help With Reporting Cancelled Debts
Dealing with Form 1099-C can be as complex as any other tax matter. Whether your canceled debt is large or small, seeking professional advice is a wise move. This ensures you’re following the rules and keeping your tax bill as low as possible.
At Tax Samaritan, we specialize in simplifying the complexities of tax-related issues, including Form 1099-C. Our team of tax professionals is ready to assist you in understanding your tax obligations, ensuring accurate reporting, and exploring potential exemptions. If you receive a Form 1099-C and need assistance with reporting, don’t hesitate to contact us.