Form 1099-C (Cancellation of Debt) is used to declare amounts of $600 or more that is forgiven or canceled by a lender or creditor, including the abandonment of secured property or a foreclosure. The amounts reported on the form may include principal, interest, fines, late fees, penalties, and administrative costs. This can include debt from credit cards, loans, mortgages, etc.
Many financial institutions aren’t diligent about filing these forms on time and may issue them years after the taxpayer’s had filed their tax returns. This became a significant issue after the 2008 recession as many taxpayer’s who had foreclosures on their properties received their 1099-C forms 2 – 5 years after 2008.
Unfortunately, this income is considered taxable at a 15.3% tax rate. However, you can reduce this tax by appropriately claiming Insolvency.
To be insolvent means an inability to pay one’s debts. If the taxpayer has other liabilities or debts greater than their assets the taxpayer can claim insolvency.
The taxpayer should provide the accountant with other liabilities that existed during this time period that inhibited the taxpayer from paying this debt. These amounts include but are not limited to:
Per IRS Notice 2014-7, issued in 2014, this income is no longer taxable. The W2 may or may not have income under Box 1 of the W2.
- If the income under Box 1 is “0” than no action needs to be taken.
- If the income is being reported, the tax preparer needs to zero out that income to ensure it is not taxable by taking the following steps
- Enter the W2 as it is presented on the tax document
- Go to the “Other Income” area on the 1040
- Enter “IHSS INCOME – NON TAXABLE – NOTICE 2014-7” as the description of the “Other Income”
- Put the amount reported in Box 1 of the W2 adjacent to this description as a negative figure
- The 1040 should now show the income reduced to zero.