Taxation Of Canceled Debt

Full Video Transcript

In these economic times, many Americans are getting some relief from debt cancellation. However, you might not know that there can be tax implications of such canceled debt, such as having to count the canceled debt as income on your tax return. You see, when you borrow money, you’re obligated to repay it, so when you borrow it, it doesn’t count as taxable income. But if the lender later forgives or reduces the amount owed, then that amount forgiven may be characterized as income for tax purposes. Generally, the lender is required to report this amount to the taxpayer and to the IRS. Now there are some exceptions to this rule. Most importantly, the Mortgage Forgiveness Debt Relief Act of 2007 allows certain taxpayers who’ve received certain loan modifications or loan reductions to exclude the amount of canceled debt from their taxable income. Other exceptions include bankruptcy and insolvency. As many of these exceptions involve complex rules, generally a tax professional is best able to assess their applicability to a particular taxpayer.