If your forgiven debt, under a short sale, loan settlement or credit card cancellation and settlement, your forgiven debt is subject to taxation. You will usually receive a form 1099-C Cancellation of Debt from the lender. This form sets out the amount of cancelled or forgiven debt. You will file the 1099-C with your federal tax return the following year, and the amount of cancelled debt is added to your gross income.
There are however exceptions and exclusion that may save you from the requirement to report cancelled debt as part of gross income.
Exceptions and Exclusions:
Not all cancelled debt is subject to income tax. The IRS recognizes both exceptions to cancelled debt rules as well as exclusions. The following is some of the exceptions:
- Gifts, bequests, or inheritances
- Some qualified student loans
- Any debt that had it bee paid, would have been deductible by the borrower
- A qualified reduction in price offered by a seller
- Certain payments on the balance of a mortgage under the Home Affordable Modification Program
When a loan is secured by real estate property, such as a mortgage, and the lender accepts a short sale, you may need to report the forgiven debt as capital gains or losses on the sale of property. However, exclusions apply:
- Debt cancelled under certain bankruptcies
- Cancelled qualified farm debt
- Cancelled qualified real property business debt
- principal residence indebtedness under the Mortgage Debt Relief Act
The Mortgage Debt Relief Act covered debt forgiven from 2007 through 2013.
The cancelled debt is also not income if you receive a Form 1099-C as a result of:
- You received the cancelled debt due to a bankruptcy; or
- you are insolvent immediately before the cancellation of the debt.
Insolvency is defined as your debt exceed the value of your assets.
Cancelled debt can be challenged both PRIOR to the 1099-C being issued. That is why hiring an attorney to negotiate the short sale and make sure the borrower/seller is provided the proper classification for the home and debt forgiveness, is crucial. The term of the 1099-C will be listed on the short sale approval letter and once issued and signed, can not be changed or modified.
Cancelled debt can also be challenged AFTER the 1099-C is issued.
Don’t go it alone. Speak to a knowledgeable attorney to handle your short sale so that you are aware of your tax consequences and can structure the best possible outcome for your needs.
Attorney Jacqueline A. Salcines, Esq., is also an accountant and can provide tax advice as well as negotiate the sale of your property and short sale terms. The first consultation is always free of charge.
TRUST | COMMITMENT | RESULTS
LAW OFFICES OF JACQUELINE A. SALCINES 706 S. DIXIE HIGHWAY 2ND FLOOR CORAL GABLES, FL 33146 TEL: (305) 669-5280 J.SALCINES@SALCINESLAW.COM