Cancel Your Debt Without Paying Taxes
You may have heard that canceling your debt can come with a huge tax bill from the IRS.
What most people will not tell you is that there are several different ways to cancel your debt for free without paying taxes. Today, we’re breaking down the most relevant tax rules to help you make sure you’re not giving Uncle Sam any more money than you actually owe.
Let’s say you get $20,000 of student loans canceled. When the next year rolls around, you’ll be getting what’s called a 1099 form reporting that full amount. If you report this directly to the IRS, you could end up owing thousands of dollars.
Who wants to go from owing a lender back to owing the IRS?
No one. Here are three rules you need to know about so you can keep your money:
1. Know which programs allow FREE loan forgiveness.
If you’re participating (or have participated) in a federal loan forgiveness program, you may be eligible for tax-free loan forgiveness. For example, maybe you made a deal with the government that you work for them X amount of years, and after that period of time is over, they completely forgive your student loan.
In these cases, you shouldn’t have to pay taxes on those forgiven loans even if you receive that 1099 form. Before you sign any five-figure checks to the IRS, double check the terms and conditions of your loan forgiveness program to see if you are eligible for non-taxable loan forgiveness.
2. You don’t have to pay taxes on canceled debt if you’re filing for bankruptcy.
When getting your loans canceled as part of a bankruptcy declaration, you shouldn't have to pay any additional taxes on that canceled debt. What often happens is tax preparers will incorrectly input your canceled debt into your tax form at the end of the year in such a way that shows you owe the IRS money.
But if you filed for bankruptcy, this is not the case. A pro tip is to make sure that if you are in this situation, you get as many of your loans canceled as possible all at once so you won’t have to pay taxes on any of them.
3. You don’t have to pay taxes on canceled debt if your debts exceed your assets.
First, add up all the student loans, credit card loans, mortgages, and other debt that you owe. Then, add up all the assets that you own: your primary residence, your car, your savings or retirement accounts.
If you OWE more than you OWE, you shouldn’t have to pay taxes on any debt cancellation.
Make sure that when your tax preparer is reporting any forgiven loans, they have enough information about your financial situation to make sure you are not paying any additional taxes.
That wraps up the three biggest rules you need to know when it comes to debt cancellation. Remember, keeping track of all these tax rules is a full-time job.
If you’d rather take that burden off your plate so you can focus on what’s important - nurturing your business, hobbies, and personal relationships - we’re here to help.
Our number one job is to make sure you get to keep your hard-earned money.
At Prominence Business & Wealth Management, we do all the hard work for you: bookkeeping, tax prep, IRS communication, and staying up to date with tax laws.
If you or someone you know is looking for one team to outsource their bookkeeping, tax prep, and IRS communication to, we ask that you please send them our way.
Just send them the link down below to schedule their free discovery call with us today.
We look forward to meeting you! See you in the next blog post.
Warmly,
The Prominence Team
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