Cancelled Debt CPA discusses Insolvency and other IRS Form 982 issues | Form 1099-C, Form 4797 and Form 1099-A

As a cancelled debt CPA, I’ve received hundreds of calls during the 2013 tax season about Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment), and, Form 1099-C, Cancellation of Debt. These callers included CPAs and other tax preparers. I’ve kept track of the issues involved regardless whether the callers became clients or not. Here they are. Then I’ll discuss them below.

• Why does cancellation of debt become taxable income on my personal and business tax returns?
• The Form 982 instructions aren’t clear.
• What is Insolvency on Form 982?
• Can I exclude my cancelled credit card debt?
• How much tax will I pay on cancelled debt reported on Form 1099-C?
• Where do I enter my information on Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment)?
• I received a Form 1099-C, Cancellation of Debt, after I filed my 2012 tax returns.
• I received a Form 1099-A, where do I put the cancelled debt on my tax return?
• How do I handle a rental property short sale where I received a Form 1099-C?
• How do I report and calculate the gain or loss on the “sale” of the asset triggered by Form 1099-C or Form 1099-A?
• What’s the “reduction of tax attributes” section of Form 982 about?

Why does Cancellation of Debt on Form 1099-C automatically become taxable income?

Because the IRS says so. It may not seem like income. Let’s say a bank issues Form 1099-C for cancelled credit card debt. You received goods and services by using the credit card. And now you don’t to pay for some of those goods and service. So Form 1099-C is an indirect type of income.

Form 982 is the only way to exclude Form 1099-C cancelled debt from taxable income.

Why aren’t the Form 982 instructions clear?

Publication 4681 and the Form 982 instructions cover a broad range of circumstances. So you must wade through the complex nature of debt cancellation to find your own application, which might be straight forward. If you think the IRS Form 982 instructions are vague, try reading the underlying Revenue Procedures. Ouch.

What does Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment) cover?

Form 982 is the only way to exclude cancelled debt from Form 1099-C, Cancellation of Debt. It allows multiple provisions, like Insolvency, you can exploit to exclude cancelled debt income. Here’s list of situations where I used Form 982 this year.

• Cancelled credit card debt.
• Cancelled debt income discharged through bankruptcy.
• Car repossession.
• Principal residence foreclosure.
• Principle residence loan modification.
• Principal residence short sale.
• Rental property foreclosures.
• Rental property short sales.
• S Corporation cancelled debt.
• Student loan cancellation of debt. When folks with student loans become disabled, those student loans get cancelled. But there are still tax consequences.

Form 982 also covers:

• Farm related cancelled debt.
• Partnership cancelled debt.

Form 1099-C, Cancellation of Debt

The IRS requires lenders to issues Form 1099-C when an “identifiable event” occurs with your loan. A copy goes to you and the IRS. But some folks never receive their copy. Why? A bad address or maybe a little revenge by the lender over defaulting of the loan. Sometimes an IRS Notice arrives, like CP 2000, proposing you pay income taxes on the entire amount of Box 2 of Form 1099-C that you never received. If you have any cancellation of debt, look for a Form 1099-C. But the 1099-C might be generated years later. I suggest pulling your IRS records to insure they didn’t receive a 1099-C.

Here’s a rough estimating technique to calculate the additional tax you’ll pay on the amount in Box 2 of Form 1099-C. Multiply Box 2 by 25-30%. That should motivate you to look at Form 982.

“Never pay taxes on cancelled debt without examining Form 982 for exclusions and exceptions.”
- Gary Bode, cancelled debt CPA

Form 1099-C can trigger an IRS reportable “sale” of an asset. In the case of rental property cancelled debt associated with a foreclosure, Form 1099-C reports the Fair Market Value of the rental property. This can be good news or bad news. Sometimes there’s an ordinary loss you can use to offset any other income. Sort of like making lemonade from lemons. But the “sale” might trigger a taxable gain. Be sure to understand IRS Form 4797, Sales of Business Property. The IRS assumes the FMV on Form 1099-C is correct. But if it’s wrong, and you can’t get the bank to re-issue a correct Form 1099-C, I sometimes make a case for a better number on the tax return.

Where is the cancelled debt of Form 1099-A, Acquisition or Abandonment of Secured Property?

IRS Form 1099-A merely reports an asset of yours has transferred to a creditor. By itself IRS Form 1099-A doesn’t generate cancelled debt. But there’s usually a Form 1099-C that arrives soon or in a future tax year. Form 1099-A usually involves the “sale” of an asset. Calculation of gain or loss is tricky.

Amending a tax return for a Form 1099-C received after you’ve filed you tax returns

Some clients receive an IRS Notice that attempts to collect tax on Form 1099-C after you’ve filed your tax returns. Here I’d check the original tax return and IRS data. Then I’d file an amended tax return. Don’t give in to IRS pressure. You’ve got the right to amend and there’s not much stigma attached to doing so. The IRS probably processes one million+ amended tax returns a year.

Tax attributes section of Form 982

The IRS doesn’t want to give up taxing cancelled debt. Sometimes you get a free ride with Form 982. But generally you adjust the basis of the asset in question (to generate a smaller loss or larger gain), and/or other assets. So the tax attributes adjustment can adversely affect you in future years. Be sure to understand what the IRS wants, but try to optimize the impact of Form 982 in future tax years.

I became a cancelled debt CPA because of this website, which I originally put up as sort of brochure for my local CPA practice. My impression is that a brick and mortar CPA doesn’t get enough Form 982 cases to become expert with cancelled debt. The broader audience of the website developed several sub-specialties for me. Our virtual office helps of course and many clients, including locals, appreciate the convenience of online CPA services. If you’d like a free consult for cancelled debt, or other tax questions, call (910) 399-2705. I try to be genuinely helpful and we don’t push services.

Here’s a link to specific examples of Form 982 cancelled credit card debt.

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