God required the Israelites to forgive their debts every seven years (Deut. 15:1, 2), and Solomon instructed the people to negotiate debt settlements if they were trapped in debt (Prov. 6:1-5). This is the biblical foundation of our system of debt relief.
God wants you to be free from debts you cannot pay, but you must be careful not to let the IRS undo what God has done by putting your back in bondage for taxes.
The IRS requires creditors who have forgiven debts to send out IRS Form 1099s for the amount of the debt forgiveness. And people are wondering if they are going to be taxed on their debt forgiveness.
The answer for most people is no. The reason is that even the Congress and the IRS know you can't get blood out of a turnip. So if your assets (less home equity and personal possessions) are still less than your liabilities after the debt is forgiven, you qualify for the "insolvency exception," and the debt forgiveness is not taxable. Debts discharged on your home and debts discharged in bankruptcy also are not taxable.
Do not, however just throw away that non-taxable 1099 form. The IRS has a special reporting procedure for excluded debt forgiveness income, and if you do not show the 1099 amount on your tax return, they will tax you and send you a bill. So be sure to follow their procedure by attaching a Form 982 to your return. To claim the insolvency exception check Box 1(b) and put the 1099 amount on Line 2. You may also have to reduce some carry-over tax attributes such as net operating losses, and if so, you will need to complete Part 2 of the form. Get help if you need it, but do not let yourself be needlessly taxed by failing to file the Form 982.
Oh, and if you've been wrongfully taxed in prior years, you can file an amended return, Form 1040-X, to claim a refund for tax years 2013 (until about April 15), 2014, and 2015. You probably should get professional tax help with a 1040-X.
Finally, don't let your creditors scare you with threats of debt relief tax. It's a scam to get more money out of you.
Just remember good old Form 982 and smile.
Ron Allen is a Christian businessman, CPA and author who serves in local, national and international ministries spreading a message of reconciliation to God, to men and between believers. He is founder of the International Star Bible Society, telling how the heavens declare the glory of God, and the Emancipation Network, which helps people escape from financial bondage, and co-founder with his wife, Pat, of Corporate Prayer Resources, dedicated to helping intercessors.
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