Is the Schedule 1099-C a blessing or a curse?
Receiving a 1099-C does impact your credit report and score and also has Federal income tax consequences.
Have you ever received a Schedule 1099-C because you have had some of your debt forgiven? If so, how does this relate to your credit report?
Jim Buxton, Michigan State University Extension Foreclosure Counselor, says, “Several clients I worked with had debts forgiven and the debt still showed up on their credit reports as collectable.” Sometimes, even when debt has been forgiven, the lender may not have reported it to the credit-reporting bureaus. Buxton shared that the debt may have even been sold to a debt collector. If this happens the creditor may have no legal right to collect once the debt has been forgiven and a Schedule 1099-C issued. It’s best to discuss your personal situation with an attorney who specializes in consumer protection if you can’t resolve the issue on your own.
The Form 1099-C denotes debts that have been forgiven by creditors. It is also known as a “cancellation of debt.” According to the IRS, lenders must file this form for each debtor for whom they canceled $600 or more of a debt owed to them. A 1099-C is sent when a consumer settles a debt with a creditor, or the creditor has chosen to not try to collect a debt. It is important to know that when a creditor is no longer attempting to collect any of the unpaid principal balance on a debt, they must report this amount to the IRS.
An important point to understand is that canceled or settled debts are not the same as debts that have been “paid in full.” If you’ve settled your debts, they will appear on your credit report and are considered derogatory because basically it means your loan went into default. This information can remain on your credit report for up to seven years.
If you are able to get your debt completely canceled, you then no longer have any responsibility for the amount owed. But the creditor must report the cancelled amount or charge-off to the IRS using the Form 1099-C cancellation of debt. The amount that was cancelled is now considered income to you and it must be reported as such on your tax return.
Tip: Keep in mind that you can settle your debts on your own. Paying a company to do it just takes more money out of your pocket that could have been used to pay off some of the debt.
If, at the time your debt was cancelled, you had a negative net worth you may be considered insolvent. This gives you the opportunity to check if you have to report all or part of the charge-off to the IRS. You’d have to file IRS Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness, if you want to claim the insolvency exemption.
Given all of that, it may still be a very good idea to settle some or all of your debts. As long as you understand that doing so will technically increase your income resulting in less of a tax refund or putting you in a situation where you have to pay additional Federal income tax. Of course, always consult a reputable tax professional with tax-related questions.
If you’re wondering about your financial health, take a financial health survey from MI Money Health to get your financial health score! It’s confidential and your answers never connect back to your name. This survey can help you evaluate your current financial situation, provide ideas on how you may improve your financial health, and connect you to resources in your local community.