Around tax time, many people receive a 1099-C form and usually do not know what to do about it.
Here is some very important information on not only why you received it, but what to do about it:
You need to understand:
- Why you received the 1099-C.
- Why you cannot ignore.
- If you will have have to pay more tax
- How to file with your tax return.
Anytime a creditor accepts less than the full balance due and the "forgiven" amount (the difference between the actual balance and the amount you paid) is greater than $600, the creditor most likely will report it to the IRS.
I said "most likely" because not all creditors will report a settlement/forgiveness.
If they do, then you will receive an IRS Form 1099-C that shows the creditor, the amount given and some general instructions on what to do.
Of course, typically with the IRS, the form is somewhat vague and not very clear as to what you need to do.
So, let's walk through this....
WHY DID YOU RECEIVE A 1099-C?
If you cannot make the required minimum payments on your credit cards or other unsecured debts, after a certain amount of time (usually 3-4 months) the creditor may sell or transfer the debt to a debt collection agency.
The original creditor will most likely write the balance off as a loss (to offset their tax reporting) and usually sell the debt at "pennies on the dollar".
Let's say that the debt collector/debt buyer bought your Visa Card debt of $5,000 for $500...(yep, the get these very, very cheaply!)
Now, you start getting calls and letters from the debt collector saying you owe the $5,000 to them (even thought they only paid $500). Starting to get the point?
Oh, by-the-way, once the account has been sold or transferred from the original creditor, you can put a stop to the phone calls:
But, even though you stop the calls, the amount you owe still remains!
Depending on your specific circumstances you may have gone through or are going through, the debt collector/buyer may be willing to accept a SETTLEMENT.
A settlement is an agreement to accept less than the full amount to satisfy the debt, usually saving you 40%-60%.
The difference between the balance owed and the amount accepted as a settlement is called a "FORGIVEN" amount by the IRS, and as I said before, you most likely will received a 1099-C form because of it.
YOU CANNOT IGNORE THE 1099-C!
We get calls from clients all the time who received the 1099-C, ignored it, filed their income taxes as usual, and then, a few months later, start getting letters from the IRS saying they own more money plus penalties and interest!
And, even though you can file an amended return in hopes of getting this taken care of, it is a lengthy, time consuming process now.
The time to deal with the 1099-C is now....not later!
Just because you receive a 1099-C doesn't necessarily mean that you will have to pay more tax.
Let's say that the Visa Card that had a balance of $5,000 and was sold to XYZ Collectors, was ultimately settled for $2,000.
Good deal!, you just saved $3,000!
Well, that's true, but, the IRS looks at it as if you had received $5,000 of goods and services, but only paid $2,000, so you had an additional $3,000 added back to your gross income for that year.
Now your total adjusted net income (the amount you will have to pay tax on after all deductions and credits are deducted from your gross income) is increased by $3,000.
If the TAX RATE (the percentage of the adjusted net income) was 20%, then you would owe an additional $3,000 x 20% or $600 more tax! (not including penalties and interest!).
But, if you had read the fine print of the 1099-C you received, it said that (paraphrasing here) that...
you may be EXEMPT if you were INSOLVENT at the time of the FORGIVENESS.
What does "INSOLVENT" mean and how do you show or prove to the IRS that you were?
How do you file with the IRS?
You must provide the IRS with a little information and the proper forms (specifically IRS Form 982).
Basically, you are going to show that at the time of forgiveness (the settlement) you had more LIABILITIES (debt owed) than your ASSETS (all equity, bank accounts, etc.)
If this is the case, then you DO NOT have to include the FORGIVEN amount as additional income and therefore, and will not have to pay any additional tax!
But, you have to provide/include the proper documentation and form with your tax return.
Don't be surprised if your tax-preparer doesn't know what to do with the 1099-C and don't "just pay the extra tax" as a result!!!
Just click below, follow the instructions: