Notice of Cancellation of a Debt
- The most common types of debt cancellation include consumer loan instruments such as car notes, credit card balances and mortgages. For mortgages and car notes, the notice of debt cancellation is normally calculated after the property is resold in an event such as a foreclosure or auction. The money received from the new buyer is deducted from your balance. Your notice may reflect the amount of debt you still owe after the reduction.
- Generally, any debt cancellation reported to you on Form 1099-C is taxable income. The Internal Revenue Service receives the notice of canceled debt from your lender and looks for the amount on the notice to be reported by you on your Form 1040 tax return. If you qualify to have the amount excluded from your taxable income, you must tell the IRS why you qualify. Either way, you need to acknowledge your debt cancellation.
- You qualify to exclude the canceled debt from your taxable income if you're bankrupt or insolvent. For the purpose of this topic, insolvency means you don't have sufficient equity in any property to fully satisfy your canceled debt. You must be insolvent before the cancellation occurs to claim this exclusion.
- You must file Form 982 with your tax return to demonstrate your insolvency or indicate a bankruptcy status. Use the insolvency worksheet in IRS Publication 4681 "Cancelled Debts, Foreclosures, Repossessions and Abandonments" (see Resources) to calculate your liability and asset values immediately before your debt was canceled to determine if you can claim an insolvency exclusion.
