If you had a debt settled or forgiven last year for more than $600, most likely you will receive a 1099-C.  Do you have to pay more taxes?  Here's what you need to know:

If a creditor is willing to accept less than the full balance due (called debt settlement), the IRS calls this a "forgiveness" of the debt. If this amount is more than $600, the creditor or debt collector who owns the debt must report the "forgiveness" to the IRS.

Then, the IRS will send you a 1099-C Form.  This form states that a certain amount was forgiven by the creditor and that you must include the forgiven amount as "other income" when you file your taxes.

Fortunately, you may be able to EXCLUDE this amount of forgiveness if you meet a simple test.  According to IRS Publication 4681, you may be deemed as INSOLVENT and do not have to add the forgiven debt as additional taxable income.  At the bottom of page 5, under the paragraph "INSOLVENCY", it states:

"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 your liabilities was more than the FMV(Fair Market Value) of all of your assets immediately before the cancellation.  For the purpose of determining insolvency, assets include the value of everything you own..."

So here is what you do:

Take a sheet of paper and on one side, list all of your ASSETS:

• FMV of your home (realistic price you should get if you sold your home)
• Savings accounts
• Net FMV of any automobiles
• Net FMV of anything of real value (collectibles, Quad runners, boats, etc.)

One the other side of the paper, list all of your LIABILITIES:

• First mortgage balance
• Any 2nd mortgage balance
• Total amount of all credit card debt (including the balance of this forgiven debt!)
• All medical bill debt
• All Store Card debt (Kohls, Sears, Home Depot, etc.)
• Any State or Federal Taxes you are paying back
• Student Loans
• Personal Loans
• Auto Loans

Add up all of your ASSETS and subtract all of you LIABILITIES.  For example:

                                     Total Assets          $236,000

                                     Total Liabilities      ($278,000)

                                     Net Worth            - $ 42,000

At the time of the "forgiveness" or settlement, you were INSOLVENT and therefore, you DO NOT have to include that amount as additional or "other income"!

                                 OK....Now What????

When you prepare (or have someone else prepare) your taxes, you will need to include

• IRS Form 982
•  A copy of the 1099-C
• A copy of your Assets vs. Liabilities worksheet (can be on yellow pad paper!).

I've been helping people deal with debt issues for over 12 years and have only had a couple of people have to include any "forgiven" amount as additional income! 

Don't be surprised if your CPA, tax preparer (especially the H&R Block types) or accountant does not really understand how to deal with a 1099-C. 

I've assisted dozens over the years and have put together a 1099-C instruction packet that you will find very helpful!

 Photo by:  https://www.flickr.com/photos/aidanmorgan/