Beware of the Debt Settlement Tax - What to Look For, What to Do
If you owe money to creditors, you might be thinking about talking to them to negotiate a settlement for your debts, by paying them less than you owe. Be careful, though. You may not have been aware of it, but debt settlement can have a huge impact on your taxes.
When you pay off the debt for less than you owe, you're effectively "earning" money. For example, if you take out a loan for $10,000, and then were unable to pay it back, but settled for $6000, you've effectively pocketed $4000. This kind of thing gets the IRS's attention in a hurry.
It's possible that at some point in the past, the U.S. tax laws allowed for this to happen with no tax implications. Unfortunately for you, the IRS is smart about such things, and has closed any loophole that may have existed in the tax law.
As I mentioned in the example above, settling credit card debt or any other debt for less than you owe your creditor will probably result in you being held liable for the "profit" you realize after paying off your debt. Keep this in mind when you file your taxes after settling your debts.
Although this may sound like a bad thing to you, you're still ahead of the game after taxes. In our example, the $4,000 "gain" you realized may be taxed at 30% (which depends on your tax bracket), meaning that you owe a $1,200 tax. Even after the tax, though, you've still only had to pay $7,200 to settle a $10,000 debt. You've gotten a 28% discount, which is a bargain in my estimation.
Because the debt settlement tax comes as a surprise to many people, they don't do anything about it until the IRS comes to audit them. Don't let this hidden tax take you by surprise.
If you need any more details on how to deal with this tax, please check with your CPA or another tax expert. - 23199
When you pay off the debt for less than you owe, you're effectively "earning" money. For example, if you take out a loan for $10,000, and then were unable to pay it back, but settled for $6000, you've effectively pocketed $4000. This kind of thing gets the IRS's attention in a hurry.
It's possible that at some point in the past, the U.S. tax laws allowed for this to happen with no tax implications. Unfortunately for you, the IRS is smart about such things, and has closed any loophole that may have existed in the tax law.
As I mentioned in the example above, settling credit card debt or any other debt for less than you owe your creditor will probably result in you being held liable for the "profit" you realize after paying off your debt. Keep this in mind when you file your taxes after settling your debts.
Although this may sound like a bad thing to you, you're still ahead of the game after taxes. In our example, the $4,000 "gain" you realized may be taxed at 30% (which depends on your tax bracket), meaning that you owe a $1,200 tax. Even after the tax, though, you've still only had to pay $7,200 to settle a $10,000 debt. You've gotten a 28% discount, which is a bargain in my estimation.
Because the debt settlement tax comes as a surprise to many people, they don't do anything about it until the IRS comes to audit them. Don't let this hidden tax take you by surprise.
If you need any more details on how to deal with this tax, please check with your CPA or another tax expert. - 23199
About the Author:
Sean Payne is a personal finance expert who has learned through trial and error (and a lot of advice) how to get out of debt. Discover how to avoid the debt settlement tax at Sean's website, where you'll find a unique "get out of debt course" that really works.
posted by X - Men @ 2:25 AM
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