A lot of times I will get questions about what happens to the debt which is discharged. Do I have to pay income taxes on it? Usually, what will happen when you file a bankruptcy and you’ve discharged debt, and I want to use just one example of a credit card situation. Let’s say you file a bankruptcy and that at the time you filed your bankruptcy case, you owed $10,000 to your creditor.
Well, because of the bankruptcy, they can’t get their money back from you so under the tax laws, they are able to take what we call a income tax write-off or deduction because the debt is no longer collectible. What happens, in turn, is they will issue you what we call a 1099-C for that $10,000 in write-off debt. Now, in normal circumstances, if you are what we call solvent, then you have to actually pay income taxes on that.
However, you don’t always have to pay income taxes on any discharged debt or any forgiveness of debt because what the IRS usually will look at is they will look at, at the time that you file this case, were you solvent or insolvent? What that means is this: if your assets are $20,000 but your liabilities are $30,000, by definition, you’re insolvent. So although the creditor, in most instances, it’s either credit card company or a mortgage company, they may issue you the 1099-C, but you’re still not going to be on the hook for any income tax liability.
You do need, because these rules change very frequently, to get the advice of a tax advisor in the event that you are issued a 1099-C because of forgiven or discharged debt. If you have any questions about whether you are going to be taxed on any discharged debt or forgiven debt, please call my office at 770-792-1000 for a free, friendly consultation.