Monday, February 25, 2008

Why Paying Taxes on Debt Settlement Savings Does Not Matter

One common concern that many individuals have regarding debt settlement programs is that according to IRS regulations any debt cancelled resulting in a savings of $600 or more must be reported as additional income on a 1099 Form. This means that savings could effectively be taxed and lead to you owing money to the government. While this is true, there are two great reasons why this won't affect you greatly.

1. The good news: If you are paying taxes because you settled a debt, it's because you saved money! If the government taxes you on this additional income, you will be required to pay a percentage of what you saved, not the entire amount. If you save $5,000 in the settlement and are taxed $1,000, you still saved $4,000. No matter how you look at it, in the end you still saved money, interest, and time.

2. Insolvency. According to IRS Publication 908, you are not required to declare cancelled debt if you are considered insolvent. Insolvent means that at the time of the settlement, you owe more in debt than you have in assets. This also means that you only pay taxes based on the amount of solvency you have. For example, if you save $10,000 at a time when you are $3,000 solvent, you only pay taxes on $3,000, not the complete $10,000. The fact is that most individuals considering debt settlement are insolvent during the process and thus never pay taxes on the money they save. A professional tax advisor can give you more specific details about this exception.
One common concern that many individuals have regarding debt settlement programs is that according to IRS regulations any debt cancelled resulting in a savings of $600 or more must be reported as additional income on a 1099 Form. This means that savings could effectively be taxed and lead to you owing money to the government. While this is true, there are two great reasons why this won't affect you greatly.

1. The good news: If you are paying taxes because you settled a debt, it's because you saved money! If the government taxes you on this additional income, you will be required to pay a percentage of what you saved, not the entire amount. If you save $5,000 in the settlement and are taxed $1,000, you still saved $4,000. No matter how you look at it, in the end you still saved money, interest, and time.

2. Insolvency. According to IRS Publication 908, you are not required to declare cancelled debt if you are considered insolvent. Insolvent means that at the time of the settlement, you owe more in debt than you have in assets. This also means that you only pay taxes based on the amount of solvency you have. For example, if you save $10,000 at a time when you are $3,000 solvent, you only pay taxes on $3,000, not the complete $10,000. The fact is that most individuals considering debt settlement are insolvent during the process and thus never pay taxes on the money they save. A professional tax advisor can give you more specific details about this exception.