One of the more confusing issues in reporting taxable income is what to do when there is a 1099-A or 1099-C involved. Sometimes both the A and the C refer to the same property, other times not. Here is a simple way to think about the issue.
- The 1099-A is required from any creditor when a borrower abandons real or personal property. This is not a taxable event. The purpose of the form seems to be only to alert the IRS that a taxable event is likely coming.
- The 1099-C on the hand is issued by a financial institution whenever it cancels debts of more than $600. This usually means that the finance company has given up on collecting the debt and written it off.
The 1099-C is what the IRS is going to attempt to match to the related tax return. The problem is that just because there is an amount on a 1099-C, it is not necessarily all taxable. There are several exceptions that the taxability of debt cancellation including:
- Cancellation of debt in a title 11 bankruptcy case. Use Form 982 to report the reduction in tax attributes for canceled debt.
- The amount that the taxpayer is insolvent immediately after the discharge. See Pub 4681 for their nifty worksheet to calculate solvency.
- A discharge that is characterized as a gift.
- A discharge that would produce an offsetting deduction.
- A purchase price reduction that reduces the asset basis.
- Certain student debts.
All 1099-Cs should be reported to avoid problems with the IRS matching program. Use a disclosure note to explain your reductions when one of the exceptions applies.