Question

Ashley had $10,000 in credit card debt. She negotiated a settlement with the credit card company, and the credit card company agreed to cancel $6,000 of the debt.

If Ashley has total assets of $25,000 and total liabilities of $50,000 at the time the debt was cancelled, what amount of gross income does Ashley have as a result of the credit card company cancelling $6,000 of her debt?

Answer 1

It is to be noted that the tax law considers most forgiven debt as income. If the lending institution forgives at least $600 worth of the principal on the customer's debt, it must report the amount to the IRS in 1099-C form. The customer inturn who receives a Form 1099-C for debt cancellation must report the canceled amount in his Form 1040 as “other income.” The only exception when the cancellation of debt does not amount to income for the borrower is in case of Bankruptcy, Insolvency, for Certain farm debts and in case of Non-recourse loans. According to the IRS, a cancelled debt need not be included to the income to the extent that you were insolvent immediately before the cancellation of such debt .Since Ashley's situation calls for claiming exceptions on the grounds of insolvency (ie Liabilities exceeding assets before the cancellation of debt), it can be effectively concluded that Ashley does not need to treat $ 6000 as income.